SET OFF AND CARRY FORWARD OF LOSSES
Introduction:-
The public finance domain of Economics deals
with principles/cannons of taxations. There are various models of Taxation but
in the developing economies progressive system of taxation has been advocated
which means a person having larger income should contribute more to the public
exchequer in comparison to the person having lesser income.
While dealing with the
subject, it has been envisaged that if a person has profits/income he should
pay taxes if he has profit and losses simultaneously he should pay tax on net
profit after deducting the losses and if he has resultant loss or only loss he
is not required to pay taxes. However, due to the complexity and need it has
been thought of to incorporate the provisions relating to set off and carry
forward of losses. Additional complexity has been created and the losses have
been restricted to be set off due to greediness of the legislators and tax
administrators.
The
set off and carry forward of losses can be sub divided into two broad
categories:-[1]
1. Set off of losses.
2. Carry forward and
Set off of losses.
SET
OFF OF LOSSES:-
The set off of losses are further sub divided
in two categories:-
1. Set off within the
same head of income or inter head set off.
2. Set off against
other heads of income or intra head set off.
Set
off within the same head of income or inter head set off (section 70)[2]
According to section 70, if there is a net
result of loss from any source of income during any assessment year the loss
can be set off against the income of any other source within same head of
income.
Exceptions:-
1. Loss from speculation business.
2. Long term capital
loss w.e.f AY 2004.
3. Loss from activity
of owning and maintaining race horses.
4. No loss can be set
off against gains from winning from lotteries, crosswords,
puzzles, card games or
other gambling.
This implies
·
Loss from one house property can be set
off against the income of other house property.
·
Loss from non speculative business can
be set off against income of speculative or non speculative business.
·
Short term capital loss can be set off
any capital gain (LT/ST).
·
Loss under the head income from other
sources can be set off against other incomes except owning and marinating of
race horses and gains from winning from lotteries, crosswords, puzzles, card
games or other gambling.
Set off
against other heads of income or intra head set off (section 71)[3].
According to section 71, if there is a net
result of loss in respect of any head of income during any assessment year the
loss can be set off against the income of any other head of income.
Exceptions:-
1. Loss from
speculation business.
2. Losses under head
capital gains.
3. Losses from the
business of owning and maintaining of race horses.
4. Loss from
business/profession cannot be set of against income under head salaries
(2005-06).
5. Loss from exempt
income (loss of profit must be loss of taxable profit).
6. No loss can be set
off against gains from winning from lotteries, crosswords, puzzles, card games
or other gambling (section 58(4)[4]).
CARRY FORWARD AND SET OFF OF LOSSES:-
If a loss cannot be set
off either under the same head or under the different heads due to
absence/adequacy of the income during the same year, such loss may be carried
forward to the next year to be set off against the income of that year.
In the present context
the losses can be carried forward to be set off against the income e other
subsequent year is possible in the following heads of income:-
1. Loss from house property.
2. Loss from business and profession:-
a) Loss from non
speculation business.
b) Loss from
speculation business.
c) Loss on account of
depreciation, Capital Expenditure on Scientific Research and Family Planning.
3. Loss on account of
capital gain:-
a) Loss on account of
short term capital gain.
b) Loss on account of
long term capital gain.
4. Loss from other sources:-
a) Only from the
activity of owning and maintaining race horses.
Carry forward and set off of losses from HOUSE
PROPERTY:-
In terms of section 71B[5]
inserted w.e.f. 1999-2000, it provides that if the loss from the house property
cannot be set off in the year in which it has occurred will be carried forward
to be set off against the income of 8 assessment years subsequent to the
assessment year in which the loss was first computed.
Key
points
·
The loss can be carried forward and set
off only prior to assessment year 1999-2000.
·
No necessity to file return in time.
·
No need to hold the house property in
the year of set off
Carry forward and set off of losses of BUSINESS
AND PROFESSION:-
Non speculation business:
The business loss other than speculation loss
to the extent of not set off u/s 71 can be carried forward to the subsequent
years unless it is set off but not exceeding 8 assessment years immediately succeeding
the assessment year in which the loss was first computed.
Key points
·
It is not necessary that the business
should be continued (w. e. f. 2000-01)
·
Business profit also includes business
activity assessable under other head. (sec2 (22)(e)[6]).
·
The assessee must be same (exceptions
are there).
·
Loss must be determined in terms of the
return filed by the assessee.
·
The delay in filing loss return may be
condoned in terms of Circular No. 8/2001 dated 16/5/2001.
Priority
of set off
(a) Current year depreciation, Capital
Expenditure on Scientific Research & Family Planning.
(b) Brought forward
Business loss.
(c) Brought forward
depreciation, Capital Expenditure on Scientific Research & Family Planning.
Key
Points:
·
Loss and depreciation of the proprietary
business merged into firm, the firm is not entitled to carry forward loss and
depreciation. However, the proprietor can is entitled to carry forward.
·
In case of inheritance, the legal heir
is entitled to carry forward the loss for balance numbers of years. Section
78(2)[7]
does not permit carry forward the depreciation.
·
Legal heirs can form the partnership
firm to carry out the proprietary business of the deceased. The partnership
firm can carry forward the losses of the proprietary business of the decreased.
[CIT vs. Madhukant M. Mehta (2001 247 ITR 805 SC)][8]
Speculation
business
In terms of explanation 2 to the section 28 it
is stated that where speculative transactions carried on by a assessee are of
such a nature as to constitute a business, the business (hereinafter referred
to as “speculation business”) shall be deemed to be distinct and separate from
any other business.
In terms of section 43(5) a “speculative
transactions” means a transaction in which a contract for purchase or sale of
any commodity, including stocks and shares, is periodically or ultimately
settled otherwise than by the actual delivery or transfer of the commodity or
scrips:
Provided that for the
purposes of this clause-
(a) a contract in
respect of raw materials or merchandise entered into by a person in the course
of his manufacturing or merchanting business to guard against loss through
future price fluctuations in respect of his contracts for actual delivery of
goods manufactured by him or merchandise sold by him; or
(b) a contract in
respect of stocks and shares entered into by dealer or investor therein to
guard against loss in his holding of stocks and shares through price
fluctuations; or
(c) a contract entered
into by a member of a forward market or a stock exchange in the course of any
transaction in the nature of jobbing or arbitrage to guard against loss which
may arise in the ordinary course of his business as such member, [or]
(d) an eligible
transaction in respect of trading in derivatives referred to in clause [(ac)][11][12]
of section 2 of the securities contracts (regulation) Act, 1956 (42 of 1956)
carried out in a recognized stock exchange;]
Shall not be deemed to be a speculative
transaction.
Analysis of amendment made by Finance
Act, 2005
The explanatory
Memorandum to the Finance Bill, 2005 explains the rationale of introduction of
the provisions as follows:
“Under the existing provisions [clause (5) of
section 43], a transaction for the purchase and the sale of any commodity
including stock and shares is deemed to be a ‘speculative transaction’, if it
settled otherwise than by actual delivery.
However, certain
categories of transaction are excluded from the purview of the said provision.
Further, the unabsorbed speculation losses are allowed to be carried forward
for 8 years for set off against speculation profit in subsequent years. The
screen based computerized trading provides for an excellent audit trail.
Therefore, the present distinction between speculative and non speculative
transactions particularly relating to derivatives is no more required.
The proposed amendment, therefore, seeks to
provide an eligible transaction carried out in respect of trading in
derivatives in a recognized stock exchange shall not be deemed to be a
speculative transaction.”
A transaction shall be regarded as eligible
transaction in derivatives and thus not being considered as speculative
transaction only if following conditions are satisfied:
(a) It is carried
electronically on screen based system.
(b) It is carried out
through a duly registered stock-broker, sub-broker or other intermediary.
(c) It is carried out
in accordance with the SEBI act the SCRA, the Depositories Act and rules framed
under these acts.
(d) It is carried on a
recognized stock exchange.
(e) It is supported by
a duly stamped contract note issued by such stock broker or sub-broker or other
intermediary to its client.
(f) The contract note
indicates the unique client identity number.
(g) The contract note
indicates the PAN.
Once a derivative
transaction is regarded as part of non speculative business income, it will
form part profit and gains of business or profession. Some of the consequences
of this are:
a. Interest on margin
money will be allowable as a deduction for computation of business income.
b. Business loss on derivatives transactions
can be set off against other business profit (but not against Salary income).
Note: it may be noted
that the losses on derivatives trading were treated as speculation losses upto
a/y 2005-06. The profit/losses on derivative trading are treated as normal
business income/losses from a/y 2006-07. 7. Therefore the losses on derivative
incurred upto a/y 2005-06 can not be setoff against the profit form derivative
trading in a/y 2006-07 and future assessment years speculation losses can’t be
setoff against non-Section 73:
(a) The loss of a speculation business shall
be set off only against the profits and gains of another speculation business.
(b) The loss to the
extent not set off shall be carried forward to the next assessment year and
set-off against the profits from speculation business of the next assessment
year.
(c) The loss form
speculation business can be carried forward for four assessment years.
In respect of allowance on account of
depreciation or capital expenditure on scientific research, the provisions of
sub-section (2) of section 72[13]
shall apply in relation to speculation business as they in relation to any
other business.
Explanation
to Section 73:
Where any part of the business of a company
consists of sale and purchase of shares, such company for the purposes of
section 73, be deemed to be carrying on a speculation business to the extent to
which the business consists of sale and purchase of shares.
This shall not apply to
the following companies:-
i. Investment company
i.e. the company whose total income mainly consists of income from house
property, capital gain and income from other sources.
ii. Company whose
principal business is of banking or of granting loan & advances.
Key
Notes:-
1. Penalty for non
performance of a contract can not be treated as speculative loss.
2. The purchase and
sales of shares against delivery will also constitute speculative business.
3. The shares are
different from units of mutual fund/uti.
4. The loss on sale of
units will be treated as normal loss.
Brought forward depreciation, Capital
Expenditure on Scientific Research & Family Planning.
Set off & carry forward of losses under
above heads are governed by sec 32(2)[14]
of the income tax act, 1961. Accordingly these can be carried forward
indefinitely.
Note:- The depreciation can be carried forward
even if return is not filled in time. { Haryana hotels, Punjab & Haryana
H.C.}[15]
Carry forward and set off of losses of Capital
Gains:-
If the net result of computation under the
head capital gain is a loss, such loss can be carried forward & set off as
under:-
1. Upto asstt. Year
2002-03 Long term capital loss can be set off against any capital gain whether
long term or short term.
2. From asstt. Year
2003-04, long term capital loss can be set off against long term capital gains
only.
3. Short term capital
loss can be set off against long term & short term capital gains.
4. The losses under the
head capital gain can’t be set off from other heads of income. It can be
carried forward for 8 next asstt. years for set off.
5. The return is
required to be filled with in time prescribed under sec 139[16]
of the income tax act, 1961.
Carry forward and set off of losses
& depreciation in case of
Amalgamation, Conversion, Merger
& Demerger, (Sec 72A, 72AA, 72AB):-
As a matter of general principle the carry
forward & set off is permitted to a person who has incurred these losses.
However, there are exceptions to this rule as under:-
1. Amalgamation of
companies
2. Demerger
3. Conversion of
proprietary concern/ firm into a company
4. Amalgamation of a
banking company with banking institution.
5. Merger/Demerger of
cooperative banks
Conditions
to be satisfied:-
1.
Amalgamation:-
a. Eligible assessee:-
1. company owing industrial undertaking (see note below) or a ship or a hotel,
2. Banking company
under banking regulation act, 1949 with a specified bank,
3. Public sector
airlines with other public sector airlines.
b. The amalgamating
company has been engaged in the business in which the accumulated loss occurred
or depreciation remains unabsorbed for 3 years or more years.
c. The amalgamating
company has held continuously as on the date of amalgamation at least three-fourths
of the book value of fixed assets held by it two years prior to the date of
amalgamation.
d. The amalgamated
company continues to hold at least three-fourths of the book value of fixed
assets of the amalgamating company which it has acquired as a result of
amalgamation for five years from the effective date of amalgamation.
e. The amalgamated
company continues the business of the amalgamated company for a minimum period
of 5 years.
f. Any other condition
as may be prescribed.
If the above specified conditions are not
fulfilled, then that part of brought forward loss and unabsorbed depreciation
which has been set off by the amalgamated company shall be treated as the
income of the amalgamated company.
Note:- Additional conditions under Rule 9C[17]
for industrial undertaking:-
a. The amalgamated
company, owning an industrial undertaking of the amalgamating company by way of
amalgamation, shall achieve the level of production of at least 50% of the
installed capacity within 4 years from the date of amalgamation and continue it
till the end of 5 years from the date of amalgamation. However, the C.G. may
relax the condition of minimum level of production or time period in suitable
cases having regard to genuine efforts made by the amalgamated company to
attain the prescribed level of production and the circumstances preventing such
conditions.
b. The amalgamated
company shall furnish to the A.O. a certificate in Form No. 62, duly verified
by an accountant, with reference to the books of accounts and other documents
showing particulars of production, along with return of income for the
assessment year relating to the previous year during which the prescribed level
of production is achieved and for subsequent assessment years relevant to the previous
year falling within 5 yrs from the date of amalgamation.
2.
Demerger:-
In case of demerger, the accumulated loss and
unabsorbed of the demerged company will be allowed to be carried forward and
set off in the hands of the resulting company.
Central govt. may specify conditions as it
consider necessary to ensure that demerger is for genuine business purposes.
Computation
of loss/depreciation to be carried forward to the demerged company:-
If the loss/depreciation is directly relatable
to the undertaking transferred to the resulting company, them such
loss/depreciation shall be allowed to be carried forward in the hands of the
resulting company.
Where however, such loss/depreciation is not
directly relatable to the undertaking transferred to the resulting company,
them such loss/depreciation it will be apportioned between the demerged and the
resulting company.
3.
Loss in case of Conversion of proprietary concern/ firm into a company (Sec
72A(4)):-
Sub section (4) has been inserted with effect
from the A.Y. 1999-2000 which states that in case of succession of a business
where a firm is succeeded by a company fulfilling the conditions u/s 47 (xiii)[18]
or a proprietary concern is succeeded by a company fulfilling the conditions
u/s 47 (xiv)[19],
the accumulated loss and the unabsorbed depreciation of the predecessor firm or
proprietary concern as the case may be, shall be deemed to be the loss and
unabsorbed depreciation for the successor company for the previous year in
which the business reorganization took place.
If the specified conditions u/s 47(xiii) and
47(xiv) are not complied with, then brought forward loss and unabsorbed
depreciation which has been set off shall be treated as the income of the successor
company chargeable to tax in the year in which such conditions are not complied
with.
One of the conditions for carry forward of the
loss of the firm is that the aggregate of the shareholding in the company of
the partners of the firm is not less than 50 per cent of the total voting power
in the company and their shareholdings continues to be as such for a period of
5 years from the date of the succession.
4.
Amalgamation of a banking company with banking institution:
Section 72AA[20]
has been inserted with effect from the A.Y. 2005-06 for providing carry forward
& set off of the accumulated loss and the unabsorbed depreciation of a
banking company, against the profits pf a banking institution under a scheme of
amalgamation sanctioned by the Central Government.
Section 72AA would be
applicable if the following conditions are satisfied:
1. There is an
amalgamation of a “banking company” with any other “banking institution”.
Banking company for this purpose means a company which transacts the business
of banking in India. A banking institution for this purpose means any banking
company and includes State Bank of India or a scheduled bank.
2. The amalgamation is
sanctioned and brought into force by the Central Government u/s 45(7)[21]
of the Banking Regulations Act, 1949.
3. The provisions of
section 2(1b)(i)/(ii)/(iii) may or may not be satisfied.
4. The provisions of
section 72A may or may not be satisfied.
Accumulated loss does not include speculative
business loss.
5. Accumulated loss and
unabsorbed depreciation allowance in business reorganization of cooperative
banks (Sec 72AB, w.e.f. A.Y. 2008-09): -
The successor
cooperative bank can set off and carry forward loss and depreciation allowance
of the predecessor cooperative bank if following conditions are satisfied:-
A. The predecessor has
been engaged in the business of banking for three or more years.
B. The Predecessor has
held at least ¾ of the book value of fixed assets of the predecessor acquired
through business reorganization, continuously for a minimum period of 5 years
immediately succeeding the date of business reorganization.
C. The successor
continues the business of the predecessor for a minimum period of 5 years from
the date of business reorganization.
D. The successor
fulfills such other conditions as may be prescribedSection
78:
Carry forward and set off of losses in case of change in the constitution of
firm or on succession:-
Sec 78(1) Change in the
constitution:-
When a change has
occurred in the constitution of a firm, then nothing shall entitle the firm to
have carry forward and set off so much of the loss proportionate to the share
of the retired or deceased partner as exceeds his share of profits, if any, of
the previous year in the firm. No partner can also avail the benefit of the
said loss.
Sec 78(2) Succession:-
Where any person carrying on any business or
profession has been succeeded to in such capacity by another person otherwise
than by inheritance, nothing in the chapter VI shall entitle any person other
than the person incurring the loss to have it carried forward and set off
against his income.
Special
provisions for set off & carry forward of losses in case of certain
companies(Sec. 79):-
1. Applicable to
companies in which the public is not substantially interested.
2. There has been a
change in the shareholding pattern in the previous year.
3. No loss incurred
prior to the previous year unless:-
a. At least 51% shares
must be held by the previous beneficial owners having voting power in the year
in which the loss was incurred.
b. Nothing contained in
this section applies in case of death of a shareholder or gift by a shareholder
to his relative.
c. Nothing contained in
this section will apply to an Indian company which is a subsidiary of a foreign
company on account of amalgamation or demerger of the foreign company.
Sec.
80 Submission of return for losses:-
If a return has not
been filled in accordance with the section 139(3), the loss shall not be
carried forward & set off under the sections 72, 73, 74 & 74A
Conclusion:
Set-off of losses means
setting-off losses against the income of the same year. Where it is not
possible to set-off the losses during the same assessment year in which they
occurred, so much of the loss as has not been so set-off (only certain
specified losses) can be carried forward for being set-off against his income
in the succeeding years. Set-off can be inter source and Inter-head.
Inter-source means when loss of one source is set-off against the income of
some other source under the same head of income. Inter-head means when a loss
remains unabsorbed from inter-source set-off, the balance of it can be set-off
against income under other head of income.
If both the adjustments
are not possible then certain losses namely loss from house property, loss from
business including speculation business, capital loss, and loss from activity
of maintaining race horses can be carried forward.
[1]
www.icia.org
[2] Set
off of loss from one source against income from another source under the same
head of income.
[3] Set
off of loss from one head against income from another.
[4] In the case of an assessee having income chargeable
under the head" Income from other sources", no deduction in respect
of any expenditure or allowance in connection with such income shall be allowed
under any provision of this Act in computing the income by way of any winnings
from lotteries, crossword puzzles, races including horse races, card games and
other games of any sort or form, gambling or betting of any form or nature,
whatsoever: Provided that nothing contained in this sub- section shall apply in
computing the income of an assessee, being the owner of horses maintained by
him for running in horse races, from the activity of owning and maintaining
such horses. Explanation.- For the purposes of this sub- section," horse
race" means a horse race upon which wagering or betting may be lawfully
made.
[5]
Where for any assessment year the net result of computation under the head
“Income from house property” is a loss to the assessee and such loss cannot be
or is not wholly set off against income from any other head of income in
accordance with the provisions of section 71, so much of the loss as has not
been so set-off or where he has no income under any other head, the whole loss shall,
subject to the other provisions of this Chapter, be carried forward to the
following assessment year and—
(i) be set off against the income from house property
assessable for that assessment year; and
(ii) the loss, if any, which has not been set off wholly,
the amount of loss not so set off,
shall be carried forward to the following assessment
year, not being more than eight assessment years immediately succeeding the
assessment year for which the loss was first computed.
[6] (e)
any payment by a company, not being a company in which the public are
substantially interested, of any sum (whether as representing a part of the
assets of the company or otherwise) 5[ made after the 31st day of May, 1987 ,
by way of advance or loan to a shareholder, being a person who is the
beneficial owner of shares (not being shares entitled to a fixed rate of
dividend whether with or without a right to participate in profits) holding not
less than ten per cent of the voting power, or to any concern, in which such
shareholder is a member or a partner and in which he has a substantial interest
(hereafter in this clause referred to as the said concern)] or any payment by
any such company on behalf, or for- the individual benefit, of any such
shareholder, to the extent to which the company in either case possesses
accumulated profits; but" dividend" does not include--
(i) a distribution made in accordance with sub- clause
(c) or sub- clause (d) in respect of any share issued for full cash
consideration, where the holder of the share is not entitled in the event of
liquidation to participate in the surplus assets;
[7] Where
any person carrying on any business or profession has been succeeded in such
capacity by another person otherwise than by inheritance, nothing in this
Chapter shall entitle any person other than the person incurring the loss to
have it carried forward and set off against his income.
[8] 2001
247 ITR 805 SC
[9] Commissioner
Of Income Tax ... vs Harprasad & Co. (P) Ltd on 25 February, 1975
[10] 1975
AIR 1282, 1975 SCC (3) 868
[11] "
contract" means a contract for or relating to the purchase or sale of
securities;
[12] " member" means a member of a
recognised stock exchange
[13] Where
any allowance or part thereof is, under sub- section (2) of section 32 or sub-
section (4) of section 35, to be carried forward, effect shall first be given
to the provisions of this section
[14] Where,
in the assessment of the assessee, full effect cannot be given to any allowance
under sub-section (1) in any previous year, owing to there being no profits or
gains chargeable for that previous year29, or owing to the profits or gains
chargeable being less than the allowance, then, subject to the provisions of
sub-section (2) of section 72 and sub-section (3) of section 73, the allowance
or the part of the allowance to which effect has not been given, as the case
may be, shall be added to the amount of the allowance for depreciation for the
following previous year and deemed to be part of that allowance, or if there is
no such allowance for that previous year, be deemed to be the allowance for
that previous year, and so on for the succeeding previous years.]
[15] (2005) 197 CTR P H 449, 2005 276 ITR 521 P H
[16] Return
of income
[17] Conditions
for carrying forward or set-off of accumulated loss and unabsorbed depreciation
allowance in case of amalgamation
[18] any
transfer of a capital asset or intangible asset by a firm to a company as a
result of succession of the firm by a company in the business carried on by the
firm, or any transfer of a capital asset to a company in the course of [demutualisation or] corporatisation of a
recognised stock exchange in India as a result of which an association of
persons or body of individuals is succeeded by such company
[19] where
a sole proprietary concern is succeeded by a company in the business carried on
by it as a result of which the sole proprietary concern sells or otherwise
transfers any capital asset or intangible asset to the company
[20] Provisions
relating to carry forward and set-off of accumulated loss and unabsorbed
depreciation allowance in scheme of amalgamation of banking company in certain
cases
[21] The
scheme shall thereafter be placed before the Central Government for its
sanction and the Central Government may sanction the scheme without any
modifications or with such modifications as it may consider necessary; and the
scheme as sanctioned by the Central Government shall come into force on such
date as the Central Government may specify in this behalf Provided that
different dates may be specified for different provisions of the scheme
