Statement of Loss to be carried forward u/s.72 of the Income-tax Act, 1961 (the Act) :
1.2 On assessment, the AO disallowed certain expenses and the assessed income and the revised Statement of Loss stood as under :
2.0 Assessee’s submission to the AO:
2.1 The company contended that the final tax payable as per the return of income and as per the assessment order was nil, and therefore, there was no ‘amount of tax sought to be evaded’ as the phrase was explained in Explanation 4 to S. 271(1) of the Act. The AO did not accept the argument and referred to the amendment made to clause (a) of Ex-planation 4 to S. 271(1) of the Act by the Finance Act, 2002, with effect from A.Y. 2003-04. According to the AO, the aforementioned amendment had put paid to all arguments in such cases made on the basis of the ratio of ClT v. Priihipal Singh & Co., 249 ITR 670 (SC) and Virtual Soft Systems Ltd. v. ClT,289 ITR 83 (SC). Moreover, the AO held that the ratio of Virtual Soft had no application after the amendment of 2002, as was observed in that case also.
2.2 The company tried to distinguish the facts in Virtual Soft’s case (supra) from its own facts by stating that in Virtual Soft the return was one of loss and the assessment was made at a reduced loss, whereas in its own case the return was one of nil income and the assessment was also one of nil income. Effectively, the company contended that as the term ‘the amount of tax sought to be evaded’ was explained in Explanation 4 to S. 271(1) of the Act there was no such amount. This argument was rejected.
3.0 The assessee seeks your advice on the above aspect with a view to deciding on the advisability of going in appeal.
4.0 Opinion:
4.1 Before embarking upon giving opinion, one must admit that the issue involved here has a long history. The matter relates to penalty, and therefore, in construing penal provisions, as the Honourable SC said in Virtual Soft (supra), the statute creating penalty is the first and last consideration and must be construed within the term and language of the particular statute.
4.2 It is true that the ratio of Virtual Soft may not apply to cases post 1st April, 2003. However, what is necessary is to see whether the company’s case here solely rests on the ratio of Virtual Soft or it can stand on its own. The point involved in Virtual Soft is succinctly brought out by the Honourable SC in the following words at page 92 of the Report: “The point involved before the High Court was, as to whether penalty was leviable u/s.271(1)(c)(iii) read with Explanation 4 thereto which came on the statute book with effect from April 1,1976, in a case where the return filed was one of loss and the assessment made by the Assessing Officer was at a reduced amount of loss.”
Thus, one may see that there was a loss declared in the return of income which was reduced on assessment. This fact is material for later part of this opinion.
4.3 In order that penalty can be imposed u/s. 271(1)(c) of the Act, there must be an ‘amount of tax sought to be evaded’, because this amount forms the basis of quantum of penalty. If it is discovered in a given case that there is no such amount, or that such amount cannot be worked out, then one can say that though the substantive provisions may apply, the machinery provisions fail. If that is the case, one may infer that the substantive provisions are not intended to apply to a given case. Support for these propositions can be found in the Supreme Court decision in the case of Cl’T v. B. C. Srinivasa Setty, 128 ITR 294. In fact, this proposition is clearly accepted in Virtual Soft (supra) also.
4.4 Therefore, it is necessary for us to find out whether there is any ‘amount of tax sought to be evaded’ in terms of the language of Explanation 4 to S. 271(1) of the Act. Let us examine the individual clauses of the said Explanation.
4.4.1 Clause (a) of the said Explanation reads as under:
“(a) in any case where the amount of income in respect of which particulars have been concealed or inaccurate particulars have been furnished has the effect of reducing the loss declared in the return or converting that loss into income, means the tax that would have been chargeable on the income in respect of which particulars have been concealed or inaccurate particulars have been furnished had such income been the total income;”
4.4.1.1 As per this clause, it applies in a situation when the income alleged to be concealed has the effect of reducing the loss declared in the return of income or converting that loss into income. If this is not the case, one need not look beyond.
4.4.1.2 In the present case, there was no loss declared in the return, as the return declared nil income. Therefore, the question of the concealed income reducing that loss declared in the return of income does not arise. One may, here, argue that the balance of the carried forward loss of Rs.90,00,000 was a loss declared in the return of income (such losses have to be stated in the form of return of income) and since this loss got reduced from Rs.90,00,000to Rs.85,00,000, the condition of ‘the concealed income reducing the loss declared in the return of income’ is fulfilled. The question is : Is it to the brought forward loss or to the current year’s loss that the reference is made in the first limb of clause (a) of Explanation 4 ? The second limb of the sentence, which reads as, “…. or converting that loss into income” holds the key to that question. The word ‘that’ used in the second limb of the sentence explains, or rather qualifies, the term ‘loss’ referred to in the first limb of the sentence. It says that the ‘loss’ referred to in clause (a) is such loss as is also capable of being converted into income. Viewed thus, one may agree that brought forward losses can be reduced, but in any assessment, they cannot be converted into income. Such losses, can at best, be reduced to nil. Therefore, one may further argue that the reference to the word ‘loss’ in this clause is to the loss of the current year which alone is capable of being converted into income on additions or disallowances made in the assessment. Since there is no loss in the current year (there is income of Rs.10,00,000 from business), clause (a) of Explanation 4 to S. 271(1) of the Act does not apply to the facts of the case.
4.4.2 Clause (b) of Explanation 4 to S. 271(1)) of the Act, being applicable only in certain special cases of search and non-filing of returns, does not apply to the facts of this case.
4.4.3 Let us examine the applicability of the residuary clause (c) of the said Explanation to the facts of this case. Clause (c) reads as under:
“(c) in any other case, means the difference between the tax on the total income assessed and the tax that would have been chargeable had such total income been reduced by the amount of income in respect of which particulars have been concealed or inaccurate particulars have been furnished.”
4.4.3.1 In order to find out the quantum of penalty under this clause, one has to find out the difference between the tax on the total income assessed and the tax that would have been chargeable had such total income been reduced by the amount of income alleged to be concealed (Rs.5,00,000 in this case).
4.4.3.2 The tax on the total income as returned and assessed, both, in this case, is nil, and as such, there is no difference between the two. Thus, no amount of penalty can be worked out under this clause.
4.4.3.3 One may argue here that Rs.I0,00,000 and Rs.15,00,000 being the returned income and the assessed income from business, respectively, should be taken as ‘the total income’ and the difference between the notional tax on such total income, returned and assessed, should form the basis of quantum of penalty. In other words, what needs to be decided is: what is the meaning of ‘total Income’, the phrase used in clause (c) of Explanation 4 ? Does the term ‘total income’ here means the one as ar-rived at before setting off of brought forward losses or the one as arrived at after such set-off?
4.4.3.4 The ‘total income’ has been defined in S. 2(45) of the Act as, ” ‘Total Income’ means the total amount of income referred to in S. 5 computed in the manner laid down in this Act”. S. 5 of the Act lays down the scope of total income, but S. 15 to S. 59 lay down provisions relating to computation of income under various heads. The question is : Is S. 72 dealing with carry forward and set-off of business losses part of computational machinery? The issue is addressed by the Supreme Court in Cambay Electric Supply Industrial Co. Ltd. v. CIT, 113 ITR 84.
At page 97 of the Report, Tulzapurkar T., speaking for the Court, said “that it was not possible to accept the view that S. 72 had no bearing on, or was unconnected with, the computation of the total income of the assessee under the head.” Following the decision in Cambay Electric, the Gujarat High Court has adopted a similar reason in Monogram Mills Co. Ltd. v. CIT, 135 ITR 122. In other words, the correct figure of total income cannot be arrived at without working out the net result of computation under the head ‘Profits and gains of business or profession’ and income under this head cannot be determined without taking into account S. 72 of the Act. Similar views are also expressed by the Supreme Court in CIT v. Shirke Construction Equipment Ltd., 291 ITR 380.
4.4.3.5 Therefore, it can be said that the term ‘total income’ used in clause (c) of Explanation 4 to S. 271(1) means the total income computed under the head ‘Profits and gains of business or profession’ taking into account the brought forward business losses. If this proposition is accepted, the total income, returned as well as assessed, in this case is nil, and the tax thereon is also nil. No amount of penalty can be worked out. It is true that the definition of the term ‘total income’ as contained in S. 2(45) is to not be followed if the context requires otherwise. However, it is submitted that there is nothing is clause (c) of Explanation 4 to S. 271(1) of the Act to suggest that the context requires a different meaning of the term ‘total income’, for any different meaning would be to stretch the language and, as the Supreme Court said in Virtual Soft (supra), it is not competent for the Court to stretch the meaning of an expression to carry out the intention of the Legislature.
In view of the above, it is submitted that though concealment might be established in the case, it is not possible to quantity the amount of penalty. The machinery provisions fail. Therefore, penalty is not leviable.
Author’s Note:
The author only expresses his views. Readers may write in to discuss a different viewpoint since the matter discussed here is controversial and may require one to act with caution.
