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June 2010

Minimum Alternative Tax — For making an addition under clause (b) of S. 115JB, two conditions must be jointly satisfied, namely, (i) there must a debit to the profit and loss account, and (ii) the amount so debited must be carried to the reserve.

By Kishor Karia | Chartered Accountant
Atul Jasani | Advocate
Reading Time 3 mins

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14 Minimum Alternative Tax — For making an addition under clause (b) of S. 115JB, two conditions must be jointly satisfied, namely, (i) there must a debit to the profit and loss account, and (ii) the amount so debited must be carried to the reserve.

[National Hydroelectric Power Corporation Ltd. v. CIT, (2010) 320 ITR 374 (SC)]

The assessee was required to sell electricity to State Electricity Board(s), Discoms, etc., at tariff rates notified by the CERC. The tariff consists of depreciation, Advance Against Depreciation (AAD), interest on loans, interest on working capital, operation and maintenance expenses, return on equity.

On May 26, 1997, the Govt. of India introduced a mechanism to generate additional cash flow, by allowing companies to collect AAD by way of tariff charge. The year in which normal depreciation fell short of the original scheduled loan repayment instalment (capped at 1/12th of the original loan) such shortfall would be collected as advance against future depreciation.

According to the Authority for Advance Rulings (AAR), the assessee supplied electricity at tariff rate notified by the CERC and recovered the sale price, which became its income; that, in future the said sale price was neither refundable nor adjustable against future bills.

However, according to the Authority of Advance Ruling (AAR), when it came to computation of book profit, the assessee deducted the AAD component from the total sale price and only the balance amount net of the AAD was taken into the profit and loss account and book profit. Consequently, the AAR ruled that reduction of the AAD from the ‘sales’ was nothing but a reserve which had to be added back on the basis of clause (b) of Explanation 1 to S. 115JB of the Income-tax Act, 1961.

The Supreme Court held that on reading Explanation 1, it was clear that to make an addition under clause (b) two conditions must be jointly satisfied :

(a) There must be a debit of the amount to the profit and loss account.

(b) The amount so debited must be carried to the reserve.

Since the amount of AAD was reduced from sales, there was no debit in the profit and loss account, the amount did not enter the stream of income for the purposes of determination of net profit at all, hence clause (b) of Explanation 1 was not applicable. It was not an appropriation of profits. AAD was not meant for an uncertain purpose. AAD was an amount that is under obligation, right from the inception, to get adjusted in the future hence, could not be designated as a reserve. AAD was nothing but an adjustment by reducing the normal depreciation includible in the future years in such a manner that at the end of the useful life of the plant (which is normally 30 years), the same would be reduced to nil.

According to the Supreme Court the AAD was a timing difference, it was not a reserve, it was not carried through the profit and loss account and that it was ‘income received in advance’ subject to adjustment in future and, therefore, clause (b) of Explanation 1 to S. 115JB was not applicable.

 

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