Tax Provisions for Business and Other Income Sources
English with a size of 9.5 KBNotes on Specific Tax Provisions
Preliminary Expenditure under Section 35D
Preliminary Expenditure refers to the expenses incurred by an assessee before the commencement of the business or after the commencement of the business in connection with the extension of the existing undertaking or the setting up of a new unit.
- Nature of Expenditure: Since these expenses are incurred before the business starts generating revenue, they are typically capital in nature and would normally be disallowed as a deduction.
- Purpose of Section 35D: This section allows a statutory deduction by amortizing the eligible preliminary expenses over a period of five years to encourage industrial growth and compensate promoters for the costs incurred in establishing a business.
- Eligible Assessees:
- An Indian company.
- A person (other than a company) who is a resident of India.
- Eligible Expenditure (Examples):
- Preparation of a Feasibility Report, Project Report, Market Survey, etc.
- Expenditure on engineering services.
- Expenditure relating to the drafting, printing, and registration of the Memorandum and Articles of Association (MoA/AoA).
- Legal charges for drafting agreements.
- Expenditure for the public issue of shares or debentures (e.g., underwriting commission, brokerage).
- Amount of Deduction (Maximum Limit): The amount qualifying for deduction cannot exceed 5% of the Cost of the Project or 5% of the Capital Employed, whichever is higher (for a company).
Cost of the Project means the actual cost of fixed assets used in the business. Capital Employed is the aggregate of paid-up share capital, debentures, and long-term borrowings.
Amortization Period: The amount qualifying for deduction (subject to the 5% limit) is allowed as a deduction in five equal annual installments, commencing with the Previous Year in which the business commences or the extension/new unit is completed.
Scientific Research under Section 35
Section 35 of the Income Tax Act provides significant tax incentives for assessees incurring expenditure on Scientific Research (R&D) related to their business. The primary objective is to promote innovation and technological development.
- Eligibility: Deduction is available to any assessee carrying on a business who incurs expenditure on scientific research.
- Types of Expenditure and Deductions Allowed (Post-April 1, 2020):
| Type of Expenditure | Description | Deduction Allowed |
|---|---|---|
| A. In-House Revenue Expenditure [Sec. 35(1)(i)] | Salaries (excluding perquisites), materials, and other running expenses incurred for research related to the assessee's own business. | 100% (Fully deductible in the year incurred). |
| B. In-House Capital Expenditure [Sec. 35(1)(iv) & 35(2)] | Expenditure on the acquisition of land, buildings, equipment, and machinery for scientific research (excluding the cost of land). | 100% (Fully deductible in the year incurred). Note: Capital expenditure incurred up to 3 years immediately preceding the commencement of business is deemed to have been incurred in the year of commencement. |
| C. Contribution to External Institutions [Sec. 35(1)(ii)] | Sums paid to approved Scientific Research Associations, Universities, Colleges, or other Institutions. | 100% (Deduction equal to the sum paid). |
| D. Contribution to Social Science/Statistical Research [Sec. 35(1)(iii)] | Sums paid to an approved university, college, or institution for research in Social Science or Statistical Research related to the business. | 100% (Deduction equal to the sum paid). |
Key Feature: Unlike normal capital expenditure, capital expenditure (excluding land) on scientific research is allowed a 100% deduction in the year of acquisition itself, instead of being depreciated over time.
Distinction Between Business and Profession
In the Income Tax Act, "Profits and Gains of Business or Profession" is treated as a single head of income. While the tax treatment is largely similar, a conceptual distinction exists:
| Basis of Distinction | Business (Sec. 2(13)) | Profession (Sec. 2(36) includes Vocation) |
|---|---|---|
| Nature of Activity | Involves the purchase, sale, production, trade, commerce, or manufacture of goods/services. Profit motive is primary. | Involves activities that require specialized intellectual skill, learning, or manual expertise acquired through formal education. Service motive is primary. |
| Qualification | Generally, no minimum prescribed educational qualification is required. Success depends on capital, risk, and commercial acumen. | Requires prescribed formal qualification, specialized knowledge, and often a license from a recognized body (e.g., Medical Council, Bar Council). |
| Capital Requirement | Requires considerable capital investment in fixed assets, inventory, and working capital. | Capital requirement is comparatively low (mostly for office equipment, library, etc.). |
| Risk Element | High risk, as it depends on market forces, competition, and demand fluctuations. | Relatively lower risk, as income relies on personal skill and reputation. |
| Transferability | The business/goodwill can generally be sold or transferred to another person. | The right to practice the profession cannot be transferred (e.g., a lawyer cannot transfer their degree). |
| Examples | Trading in clothes, operating a factory, running a transport company. | Doctor, Lawyer, Chartered Accountant, Architect, Engineer. |
Income from Other Sources
Meaning of Income from Other Sources
Income from Other Sources is the fifth and residual head of income under the Income Tax Act, 1961. This head is governed by Sections 56 to 59.
- Catch-All Head: It is designed to capture any income that does not logically or specifically fall under the other four heads of income: Salaries, Income from House Property, PGBP, and Capital Gains.
- Charging Section (Section 56): Section 56(1) states that income of every kind which is not chargeable to tax under any of the first four heads shall be chargeable under the head "Income from Other Sources."
- Specific Incomes (Section 56(2) - Examples): Section 56(2) specifically lists certain incomes that are always charged under this head (unless taxable under PGBP), such as:
- Dividends (received from companies).
- Winnings from lotteries, crossword puzzles, races, card games, betting, etc.
- Interest on Securities (like debentures or government bonds).
- Income from sub-letting a house property.
- Family Pension (received by legal heirs of a deceased employee).
- Interest received on compensation or enhanced compensation (taxable on 50% of the amount).
- Income from letting out Plant, Machinery, or Furniture (if not incidental to the main business).
Deductions Allowed under Section 57
Section 57 enumerates the specific deductions allowed from the gross income chargeable under the head "Income from Other Sources" to arrive at the net taxable income.
- Commission/Remuneration for Realizing Income [Sec. 57(i)]: Any reasonable sum paid by way of commission or remuneration to a banker or any other person for the purpose of realizing (collecting) dividend or interest on securities.
- Repairs, Insurance, and Depreciation for Let-Out Assets [Sec. 57(ii)]: In case of income from letting out Plant, Machinery, Furniture, or Building, deductions are allowed for current repairs, insurance premiums, and depreciation under Section 32.
- Family Pension Standard Deduction [Sec. 57(iia)]: A standard deduction is allowed, equal to the lower of:
- One-third (1/3rd) of the family pension received, or
- ₹15,000.
- Any Other Expenditure [Sec. 57(iii)]: Any other expenditure (not being capital or personal) laid out wholly and exclusively for the purpose of earning such income.
- Example: Interest paid on money borrowed for an investment that generates income taxable under this head.
- Note: The deduction for interest paid on borrowed capital to earn dividend income is restricted to 20% of the gross dividend income.
- Deduction from Interest on Compensation [Sec. 57(iv)]: In the case of interest received on compensation or enhanced compensation, a deduction of 50% of such income is mandatorily allowed.
Would you like to see a comparison of the tax implications (allowances/deductions) under the two heads: PGBP (Profits and Gains of Business or Profession) and Income from Other Sources?