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Form 3CD

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Form 3CD

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  1. TAX AUDIT – Few InsightsForm No. 3CD [Rule 6 G(2)]

  2. Applicability • Governing section Section 44AB • Who should get tax audit done? • Every person carrying on business If total sales/turnover or gross receipts exceed Rs. 60 lacs • Every person carryon on a profession If Gross receipts exceed Rs. 15 lacs Every person covered under presumptive taxation scheme  Sections 44AD, 44AE, 44B, 44BB, 44BBA, 44BBB, in case assessee claims actual income is less than the presumptive income computed under the said Sections.

  3. Applicability (Cont'd..) • If income does not exceed the maximum income chargeable to tax • The obligation to get accounts audited is not linked to income. However, w.e.f. April 1, 2011, assessee who are covered in Section 44AD shall get its accounts audited, if: • Assessee claims that his income is less than the presumptive income computed under Section 44AD; and • His income exceeds maximum exemption limit. • Is tax audit applicable when income is exempt under Section 10 • Tax audit is not mandatory if entire income is exempt under Section 10 (ACIT vs. India Magnum Fund) 81 ITD 295 (Mum - ITAT) • However, as per ICAI’s guidance note on Tax audit , assessee shall get its accounts audited if the threshold limits get triggered even if by virtue of exempt income.

  4. Applicability (Cont'd..) • Turnover - Meaning of • As per “Guidance note on Tax Audit” issued by ICAI, turnover means the aggregate amount for which sales are effected or services rendered by an enterprise • It includes: • Sales tax/VAT and excise duty (if inclusive method is followed) • Sale of scrap • Cash Discount otherwise than that allowed in a cash memo/sales invoice • Commission on sales • Sale of by product

  5. Applicability (Cont'd..) • Turnover - Meaning of • It does not include: • Sales tax/VAT and excise duty (if exclusive method is followed) • Ancillary Charges – packing, fright, forwarding, interest, commission • Goods returned, price adjustments and cancellation of bills to be deducted from turnover • Sale proceeds of any shares, securities, debentures etc. held as investment • Sale proceeds of fixed assets (not held for resale) • Sale proceeds of investment property • Trade discount

  6. Applicability (Cont'd..) • Gross Receipts - Meaning of • Gross receipts shall mean all receipts whether in cash or in kind arising from carrying on of any business (which will be assessable as business income). It includes: • Advances forfeited from customer • Cash incentives from exports • Charges recovered (not by way of reimbursement) • Commission, brokerage, service charges and other incidental charges • Dividend on shares (received by share dealer) • Duty drawback • Exchange difference

  7. Applicability (Cont'd..) • Finance income of lessor • Receipt of lease rent of operating lease • Insurance claims (except for fixed assets) • Out of pocket expenses – recovered by Chartered Accountant/ Advocate/Solicitor (if not billed separately) • It does not include: • Advance forfeited in respect of fixed assets • Advances receipt for services to be rendered. (However, a contrary view is taken in CIT vs. Gopal Krishan Builders 91 ITD 124) • Dividend on shares (other than where assessee is a dealer) • Interest income and Rental income (if not assessable as business income)

  8. Tax Audit Report – Relevant Forms • Form No. 3CA - This form is applicable, if: • Assessee is required to get his accounts audited under any other law; and • The financial year under that other law is the previous year; • Form No. 3CB - This form is applicable, if: • Section 44AB applies to the assessee but he is not required to get its accounted audited under any other law; • Section 44AB applies to the assessee and he is required to get its accounted audited under any other law but financial year under other law is not the previous year; • Form No. 3CD- The particulars which are required to be furnished under section 44AB shall be in Form No. 3CD.

  9. Form 3CD – Clause 13(b) • Following items may be disclosed – to the extent not credited to P / L Account • Any amount credited to general reserve/capital reserve/revenue reserve; • Refund of Sales tax, excise duty, custom duty, etc. notwithstanding whether the assessee is following inclusive or exclusive method; • If refund of sales, excise duty, custom duty, etc. is admitted as due by the concerned authorities but not credited to P/L Account; • Where such refund is not credited in the P/L Account but netted against the relevant expenditure/income heads; • However, Income tax/wealth-tax refund is not required to be disclosed;

  10. Form 3CD – Clause 13(d) • Any other item of income – not credited to profit and loss account • Employees' contribution to provident fund considered as income under Section 2(24)(x) [alternatively it can be shown in Clause 16(b)]; • Winning from lotteries, crossword puzzles, etc; • Any sum received as gift; • Amount of deemed dividend under Section 2(22)(e) in the hands of the assessee - shareholder.

  11. Form 3CD – Clause 13(d) (Cont'd…) • Deemed Dividend • As per section 2(22)(e), dividend includes any payment by a closely held company of any sum by way of: • Loans and advance (to the extent of accumulated profits) to a Beneficial owner; or • Loans and advance (to the extent of accumulated profits) to any concern in which Beneficial owner is a member or a partner and in which he has a substantial interest; or • Any payment (to the extent of accumulated profits) to any person, on behalf, or for the individual benefit, of any beneficial owner.

  12. Form 3CD – Clause 13(d) (Cont'd…) • Deemed Dividend • Loans means a lending, delivery by one party to and receipt by another party of sum of money upon agreement, express or implied, to repay it with or without interest. • Beneficial owner means a equity shareholder, who is beneficial owner of shares holding not less than 10% of the voting power. • Shareholder should have 10% voting power on the date the advance or loan is given to him; • Any distribution is treated as dividend only to the extent that the company possesses accumulated profits (“AP”);

  13. Form 3CD – Clause 13(d) (Cont'd…) • Deemed Dividend • If the company does not have AP and still makes a payment under any of the above clauses the same shall not be treated as dividend. • AP includes all the profits of the company • upto the date of liquidation - in case of company into liquidation • upto the date of loans or advance – in other case • AP means commercial profits, not assessed profits [Badiani (P.K.) vs. CIT] 105 ITR 642 (SC) • Profit on forfeiture of share application money does not form part of AP (Jai Krishan Dadlam) 4 SOT 138 (Mum.) • Loan advanced in ordinary course of business – No deemed dividend

  14. Form 3CD – Clause 13(d) (Cont'd…) • Deemed Dividend • Judicial decisions • Total amount of loan or advances to the extent of accumulated profits (not the proportionate share of AP) is deemed as dividend. (CIT vs. Mayur Madhukant Mehta) 85 ITR 230 (Guj.) • Loan can be deemed as dividend only once – (CIT vs. Narasimhan) 236 ITR 327 (SC)

  15. Form 3CD – Clause 13(d) (Cont'd…) X Shareholder Y Shareholder Z Shareholder Loan given to ‘Y’ 30% 30% 40% A Pvt. Ltd. 25% Loan given to ‘AXM’ Loan given to ‘L’ AXM & Co Partnership Firm (X is a partner) L Brother of Z On behalf of or for the benefit of Z

  16. Form 3CD – Clause 13(d) (Cont'd…) X Shareholder Y Shareholder Z Shareholder Loan given to ‘Y’ 30% 30% 40% A Pvt. Ltd. 25% Loan given to ‘AXM’ Loan given to ‘L’ AXM & Co Partnership Firm (X is a partner) L Brother of Z Taxable in hands as ‘Deemed dividend’ On behalf of or for the benefit of Z

  17. Form 3CD – Clause 13(d) (Cont'd…) • Case study – 1: Section 2(22)(e) • Case I: • During the previous year 2010-11, Mr. X is a shareholder in Company A Pvt. Ltd and holds 13% shares in the company. • Company has accumulated profits amounting to Rs. 5,000,000 as on 01 January, 2011. • A Pvt. Ltd. gives a non-commercial loan to Mr. X amounting to Rs. 500,000 on 01 January, 2011. • Whether implications of deemed dividend shall arise in hands of X Ltd. • Case II: • A ltd holds 15% shares in B Ltd and 25% in C ltd. • B Ltd advances a loan of Rs. 200,000 to C Ltd. • Case III: • A Ltd holds 15% in B Ltd. • B Ltd makes a payment on behalf of or for individual benefit of A Ltd amounting to Rs. 200,000.

  18. Form 3CD – Clause 13(d) (Cont'd…) • Solution • Case I: • Since Mr. X is a beneficial owner in A Pvt. Ltd, thus, Rs. 500,000 shall become deemed dividend in hands of Mr. X under section 2(22)(e). • Suppose, in the above case, on 31.12.2010, Mr. X ceases to hold 4% of the shares of A Pvt. Ltd and reacquired the same on 02.01.2011. • In this case, there will be no deemed dividend under section 2(22)(e) in hands of Mr. X • Case II: • Deemed dividend shall arise in the hands of C Ltd under section 2(22)(e). • Case III: • In this case, deemed dividend shall arise in hands of A Ltd.

  19. Form 3CD – Clause 13(e) • Clause 13 – capital receipt not credited to P/L Account • The term "Capital Receipt" may include – • Capital subsidy; • Government Grant; • Profit on sale of fixed assets not passed through P/L Account; • Compensation for surrendering certain rights. • Loans and borrowings are not required to be reported;

  20. Form 3CD – Clause 14 • Clause 14 – Depreciation and Written Down Value (‘WDV’) • Printer, scanners, UPS, Web-cameras, etc – Computer or Plant & Machinery? • Depreciation on goodwill – Whether intangible or fictitious asset? • Depreciation shall be computed on actual cost of asset, which shall be determined after reducing the following: • CENVAT credit on capital goods; • Capital subsidy and grant (if received by way of reimbursement, to be reduced in the year of receipt); • Cost borne by any person (by way of subsidy, grant or reimbursement).

  21. Form 3CD – Clause 14 (Cont'd…) • Clause 14 – Depreciation and WDV • Interest on capital borrowings, which is used for acquisition of capital asset, shall not form part of actual cost of asset if it belongs to the period subsequent to asset is put to use. • Foreign exchange gain/loss shall be adjusted with WDV of capital asset in accordance with Section 43A of the Act, if: • Asset is acquired from outside India; and • Loan is taken from outside India in foreign currency; and • Actual payment is made in respect of outstanding liability. • Exchange fluctuation on interest accrued shall also be adjusted in the cost of the asset as per Section 43A of the Act.

  22. Form 3CD – Clause 15 • Clause 15 – Amount admissible under Section 35D, etc. • Deduction under Section 35D is allowed, if eligible expenditure is incurred: • Before commencement of business; or • After commencement of business in connection with extension or setting up of a unit. • Eligible Expenditure shall be expenditure on following: • Preparation of feasibility/project report; • Market survey and engineering services; • Legal charges for drafting agreement and MOA & AOA; • Registration fees for incorporation of company; • Expenditure in connection with public issue (prospectus, brokerages, underwriting commission, etc.)

  23. Form 3CD – Clause 15 • Clause 15 – Amount admissible under Section 35D, etc. • The amount not debited to P/L Account but admissible under Section 35D have to be stated. • Deduction under Section 35D - • Expenditure incurred in connection with private placement of shares is not an eligible expenditure; • Eligible expenditure shall be claimed as deduction from the very first year of commencement of business – [IFCIL vs. ACIT – 99 ITD 639 (Delhi)]; • Section 35D does not override Section 37(1) of the Act. Both these sections are mutually exclusive i.e. Any expenditure which is otherwise allowable under Section 37(1) cannot be brought within the preview of Section 35D; • Discount on issue of debentures shall be claimed as deduction under Section 37(1) – [DCIT vs. Modern Syntex (India) Ltd. 3 SOT 26 (JP)];

  24. Form 3CD –Clause 16 • Clause 16 – Bonus, Commission and employees contribution to welfare dues • Clause 16(b) – Any sum received from employees towards employees welfare fund, due date and actual date of payment to the concerned authorities to be reported • Only amount of deduction and particulars of deposit is required to be reported; • Whether allowed as deduction if paid after due date as specified in respective Act but before filing of return of income?

  25. Form 3CD –Clause 17 • Clause 17(a) – Capital expenditure debited to Profit and Loss Account • Discount on issue of debentures is a deferred revenue expenditure (to be allowed over tenure of debentures)[Madras Industrial Investment Corporation vs. CIT – 225 ITR 802 (SC)]; • Stamp duty and registration for issue of bonus shares are revenue expenditure [CIT vs. General Insurance Corp. 286 ITR 232 (SC)]; • Expenses on issue of share is a capital expenditure [Brooke Bond India Ltd. vs. CIT 225 ITR 795 (SC)]; • Reconditioning carried out to machinery is a capital expenditure if it resulted in imparting useful life to hitherto old and unfit machinery [Bharat Gears Ltd. vs. CIT 12 Taxmann.com 256 (Delhi)];

  26. Form 3CD –Clause 17 • Clause 17(d) – Expenditure incurred at clubs • There are no legal provision expressly disallowing expenditure incurred on clubs. However, these expenditures are disallowed if it bears the nature of being personal expenditure; • Auditor only needs to verify and furnish the data regarding club expenditure. No need to opine on allowability of expenditure as deduction; • Payment to service organizations such as Rotary, Lions, Jaycees, Giants, etc. would not necessarily be treated as payment to clubs [para 31.2 of ICAI's Guidance Note on Tax Audit]; • Payment in respect of both employees and directors should be reported under this Clause; • If auditors feels any portion of club fees is of personal nature, the same should be shown separately under Clause 17(b).

  27. Form 3CD –Clause 17 • Clause 17(f) – Amount inadmissible under Section 40(a) • In case of default in TDS compliance, amount to be disallowed under Section 40(a)(i) and Section 40(a)(ia) to be reported here [The particulars stated here must correspond to Clause 27 also]; • Tax paid during the year shall be reported, namely: • Income-tax; • Wealth Tax; • Tax paid in any country other than India; • Interest on overdraft for payment of Income-tax is not an allowable expenditure under Section 40 [Bharat Commerce & Industries vs. CIT 230 ITR 733 (SC)]

  28. Form 3CD –Clause 17 • Clause 17(i) – Provision for Gratuity • Any provision for gratuity to be disallowed under Section 40A(7) shall be reported in this Clause; • However, provision made for the purpose of payment of a sum by way of any contribution towards an approved gratuity fund or for payment of gratuity during the year shall be allowable (subject to Section 43B); • Payment made directly to the LIC towards the group gratuity fund shall be an allowable expenditure – [CIT vs. Textool Co. Ltd. – 122 Taxmann 668 (Mad.)]; • Provision for gratuity, which is transferred to the transferee company along with the employees, shall be allowed as deduction – CIT vs. J.R. Diamonds Ltd. vs. ACIT – 70 ITD 42 (Mum)]

  29. Form 3CD –Clause 17 • Clause 17(k) – Liability of contingent nature • "Contingent liability" should be construed in the sense in which it is defined in AS – 29 – [DCIT vs. Insotex (India) Ltd. – 4 SOT 612 (Bang.)]; • As per AS -29, no provision shall be made in respect of contingent liability. If provision is made, the same shall be reported in this Clause; • Provision for warranty shall be a contingent liability and if it is debited to P/L Account it shall be reported in this Clause – [Rotork Controls India (P.) Ltd. vs. CIT – 180 Taxmann 422 (SC)] • Any amount paid under dispute or protest shall not be regarded as expenditure, as amount is not incurred towards any liability which is actually existing at the time of payment. Thus, such amount may be regarded as contingent liability and to be reported under this Clause.

  30. Form 3CD –Clause 21 • Clause 21 – Payment under Section 43B (Exclusive list) • Payment in the nature of : • Tax, duty, cess, fee or other statutory payments; • Bonus or commission paid to employee; • Employers’ contribution to any provident fund, superannuation fund, gratuity fund or any other fund for the welfare of employees; • Interest on any loan or borrowing from any public financial institution; • Interest on any loan or advances from a scheduled bank; • Leave .encashment • Which are otherwise allowable under the Act.

  31. Form 3CD –Clause 21 (Cont'd…) • Clause 21 – Payment under Section 43B – Important judgments • Interest on sales tax is part of sales tax and covered by Section 43B – [Mewar Motors vs. CIT - 260 ITR 218] • As per Explanation 3D to Section 43B, Conversion of interest into loan shall not tantamount to payment of interest and not allowed as deduction; • Payment of employees' contribution to provident fund or other welfare fund – Whether subject to Section 43B or not?

  32. Form 3CD –Clause 21 (Cont'd…) • Clause 21 – Payment under Section 43B – What to disclose • Provision for leave encashment as on April 1, 2010 - Rs. 1,000; • Provision made during the year – Rs. 1,500 • Payment during the year: • Before September 30, 2010 - Rs. 200 ; • Paid in December, 2010 - Rs. 500; • Payment in next year in June, 2011 – Rs. 400 • What should be the disclosure under Clause 21?

  33. Form 3CD –Clause 21 (Cont'd…) • Clause 21(i)(A) – Payment under Section 43B – What to disclose • Clause 21(i)(B) – Payment under Section 43B – What to disclose

  34. Form 3CD –Clause 21 (Cont'd…) • Clause 21(i)(A) – Payment under Section 43B – What to disclose • Clause 21(i)(B) – Payment under Section 43B – What to disclose

  35. Form 3CD –Clause 22 • Clause 22 – MODVAT Credit / Prior period items • MODVAT Credit • MODVAT credit is excise and service tax paid on input goods/services • Reported as follows:

  36. Form 3CD –Clause 22 (Cont'd…) • Clause 22(a) – MODVAT Credit • MODVAT Credit (Contd.) • The above reporting is bifurcated into use of MODVAT credit in respect of: • Excise duty paid on inputs • Excise duty paid on capital goods • Service tax paid on input services • Procedure of reporting against this clause: • Verify the RG-23 register and records maintained under Cenvat Credit Rules, 2004. • Verify the reconciliation between Cenvat Credit as per accounts, Cenvat Credit as per excise records and Cenvat credit as per returns filed with the department.

  37. Form 3CD –Clause 22 (Cont'd…) • Clause 22(b) –Prior period items • This clause applies to assessee following mercantile system of accounting. • Allowability of Prior period items as per Normal provision of the Act • As per AS – 5, prior period items include any income or expenses which arise in the current period as a result of errors or omissions in the preparation of the financial statements of one or more prior periods. • As per Section 4 of the Act, income-tax shall be charged in respect of the total income of the previous year of every person. • Thus, for the purpose of computing yearly profits or gains, each year is considered as a separate self-contained period of time, and any profit earned or loss incurred before its commencement are irrelevant – [CIT vs. S.M. Chtnavis [1932] 6 ITC 453 (PC)].

  38. Form 3CD –Clause 22 (Cont'd…) • Clause 22(b) –Prior period items • If assessee is not making provision for the accrued expenses, then results into hybrid system of accounting which is not, at all, permitted now – [IMP Power Limited vs. ITO - 9 SOT 156 (Mumbai)] • If expenditure is incurred regularly over a period of time, it can be expected that the provisions for such expenses, even in the absence of concrete evidence, can be created on the basis of past experience. – [Delhi Tourism & T.D.C. Ltd. vs. CIT - 155 Taxman 10 (Delhi)] • Conclusion - • If an assessee is following mercantile system of accounting, it is presumed that he shall recognize all the expenditure in the relevant year itself; otherwise it may give a distorted picture of current year profit. Accordingly, it will be safe to conclude that any expenditure which is belonging to any year other than the previous year shall not be allowed as deduction

  39. Form 3CD –Clause 22 (Cont'd…) • Clause 22(b) –Prior period items • Allowability of Prior period items as per MAT • As per Explanations to Sec. 115JB, the book profit shall be computed after deducting the items permissible under Explanation to Sec. 115JB from the profit available as per the P/L A/c prepared in terms of Schedule VI of Companies Act, 1956. • As per AS– 5 the nature and the amount of each extraordinary item and prior-period items should be separately disclosed in the statement of profit and loss in a manner that its impact on current profit or loss can be perceived; • Prior period expenditure are not specifically allowed as deduction as per the Explanations to Sec. 115JB. Thus, prior-period expenditures shall not be allowed as deduction – [Sree Bhagwathy Textiles Ltd. ACIT - 199 Taxman 14 (Kerala)];

  40. Form 3CD –Clause 22 (Cont'd…) • Clause 22(b) –Prior period items • On the contrary, it was held by Delhi High Court, that AS-5 clearly stipulates that prior period items are incomes or expenses which arise ‘in the current period’ as a result of errors or omissions in the preparation of the financial statements of one or more prior periods. Thus, prior-period expenditure shall be allowed as deduction while computing tax payable as per provisions of MAT – [CIT vs. Khaitan Chemicals & Fertilizers Ltd. - 175 Taxman 195 (Delhi)] • Conclusion – We are of the view that prior-period items may be allowed as deduction as per provisions of Section 115JB

  41. Form 3CD –Clause 24 • Clause 24 – Loans and deposit accepted/repaid – Section 269SS/269T • Provisions of section 269SS were not applicable to amount advanced for future supply of goods – [CIT vs. Kailash Chandra Deepak Kumar – 317 ITR 351 (All.)]; • Share application money partakes the character of deposit, if it is repayable on refusal to allot – [Bhalotia Engineering Works (P.) Ltd. vs. CIT – 275 ITR 399 (Jhar.)]; • No actual receipt of money, amount credited by journal entries on account of payment by sister concern on behalf of the assessee. It does not mean the violation of Section 269SS – [Gujarat Ambuja Proteins Ltd. – 3 SOT 811 (Ahd.)]; • Interest free loans are also loans covered under Section 269SS; • Payment through RTGS, NEFT, A/c Transfer, etc. cannot be regarded as payment in violation of Section 269SS and 269T – [ICAI Guidance Note]

  42. Form 3CD –Clause 24 (Cont'd…) • Clause 24 – Loans and deposit accepted/repaid – Section 269SS/269T • Security deposits against contracts, etc. are 'deposits' and such information are to be reported in this clause; • However, if security deposit are in the form of amounts retained from bills, these are retentions and not to be reported in Form 3CD; • Particulars of repayment of loan or deposit taken from Government, Government Company, banking company or corporation established by a Central, State or Provincial Act need not be reported under Section 269TT and this Clause; • While determining the maximum amount outstanding at any time during the year, the interest component shall also be included (to the extent credited in the books of accounts).

  43. Form 3CD –Clause 25 - Change in shareholding • of Companies • Clause 25 – Change in shareholding of Companies • If any change in shareholding of the Company takes place in the previous year, no loss incurred in any year prior to previous year shall be carried forward and set off against income of previous year; • However, provisions of this section shall not apply if on the last day of the previous year and last day of the previous year in which loss is incurred, not less than 51% of the voting power is beneficially held by the same person; • Here, the company means a company in which public are not substantially interested (Closely held company); • The provision shall not apply if voting power changes consequent upon: • The death of the shareholder; • Transfer of shares by way of gift to the relatives of shareholders; or • Amalgamation or demerger of foreign holding company (if 51% of shareholders continues)

  44. Form 3CD –Clause 25 - Change in shareholding of Companies • (Cont'd…) • Meaning of "Closely held company" – • A Private Company; or • A Company which is not a widely held company. • Meaning of "Widely held company" - • A Company owned by Government or RBI; • 40% of shares held by Government or RBI or Corporation owned by RBI; • Section 25 Companies; • Nidhi or Mutual Benefit Societies; • 50% of voting power held by co-operative societies throughout the year; • Company's shares are listed on RSE as on the last day of the previous year; • 50% of voting power of the Company is held by following persons (Singly or jointly) throughout the year; • The Government; • A corporation established under an Act;

  45. Form 3CD –Clause 25 - Change in shareholding of Companies • (Cont'd…) • Meaning of "Widely held company" - • A company to which this clause applies or any subsidiary of such company (if 100% of share capital of such subsidiary is held by parent company or by its nominees throughout the previous year).

  46. Form 3CD –Clause 25 - Change in shareholding of Companies • (Cont'd…) • (50%) (100%) (25%) • (50%) (50%) (100%) (25%) (25%) (100%) • Determine Widely held and closely held companies? A Ltd (Listed Company) B Ltd C Ltd D Ltd F Ltd H Ltd G Ltd E Ltd

  47. Form 3CD –Clause 25 - Change in shareholding of Companies • (Cont'd…) • (50%) (100%) (25%) • (50%) (50%) (100%) (25%) (25%) (100%) A Ltd (Listed Company) B Ltd C Ltd D Ltd F Ltd H Ltd G Ltd E Ltd Widely held companies Closely held companies

  48. Form 3CD –Clause 25 - Change in shareholding of Companies (Cont'd…) • Clause 25 – Brought forward losses and change in shareholding of Companies • It must be noted that 51% or more of the voting powers should be held by the same person and not 51% or more of the shares. [Amco Power Systems ltd v ITO - 123 TTJ 238] • If a company is converted into a public company by virtue of provisions of section 3(iv)(c), it cannot be said to be a private company under section 79 of the Act read with section 2(18). Hence, such company shall be allowed to carry forward the losses of any previous year. [Meredith Traders (P.) Ltd v ITO - 12 Taxmann.com 29 (Mum.) • Section 79 applies to all losses, including losses under the head Capital gains. However, overriding provisions of section 79 do not effect the set off of unabsorbed depreciation which is governed by section 32(2) [CIT v Concord Industries Ltd. - 116 Taxmann 845 (SC)]

  49. Form 3CD –Clause 25 - Change in shareholding of Companies • (Cont'd…) • Case Study 2: Section 79 • Z Ltd. is a closely held company. X and Y are two shareholders of Z Ltd. holding 95% and 5% shares respectively. • In previous year 2009-10, Z Ltd. suffered a loss of Rs. 4,00,000, the amount of loss being bifurcated into • business loss of Rs. 100,000; and • unabsorbed depreciation amounting to Rs. 3,00,000. • In previous year 2010-11, Z Ltd. earned an income of Rs. 9,00,000. • Two cases have been considered below to understand the applicability of section 79 of the income-tax Act: • Case I:On 10 October 2010, the shareholder Mr. X transferred 41% of its shareholding to Mr. A. • Case II:On 10th October 2010, Mr. X transfers its entire holding (i.e. 95%) to Mr. A.

  50. Form 3CD –Clause 25 - Change in shareholding of Companies • (Cont'd…) • Solution • Under Section 79 of the Act, shareholding of a person must not fall below 51% as on the last day of the previous year in which loss is incurred and last day of the previous year in which such loss shall be carries forward and set off; • Case I: • Mr. X transfers 41% of its shareholding in Z Ltd to Mr. A. Present shareholding of Mr. X in Z Ltd is 54%. • In light of the above, it is concluded that Z Ltd shall be entitled to carry forward and set off its entire loss of the previous year 2009-10 amounting to Rs. 400,000 in the year 2010-11. • Case II: • Mr. X transfers its entire shareholding to Mr. A. and no longer remains shareholder in Z Ltd; • Thus, there is a change in the shareholding pattern of Z Ltd on the above mentioned dates with shareholding of Mr. X fall below 51%. Hence, Z Ltd cannot set off Rs. 100,000 which is their business loss but can adjust depreciation of Rs. 300,000 against its current year income.

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