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Section 35D of Income Tax Act - Few technical aspects

CA Mehul Thakker 
on 01 August 2020

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Dear Students/Readers,

Let us start with a small practical scenario.

Vita biscuit Limited (VBL) was incorporated on 1st November, 2019. However, it started commercial production on 14th February, 2021. VBL incurred various preliminary expenses of Rs.9,00,000 before commencement.

Following is the extract of Balance Sheet of VBL

On March 31, 2020 (Rs.)

On March 31, 2021 (Rs.)

Cost of project

17,00,000

1,36,00,000

Issued share capital

1,00,000

1,50,00,000

Paid up share capital

1,00,000

1,30,00,000

Debentures

10,00,000

10,00,000

Long-term borrowing in foreign country

9,00,000

15,00,000

Section 35D of Income Tax Act - Few technical aspects

Determine the amount of deduction under section 35D.

Before we jump into the technical aspects of section 35D, let me give you a quick overview of section 35D.

Q1. Who can claim deduction under section 35D of the Act?

Ans Indian company or a non-corporate resident assessee

Q2.What will be the time and purpose of incurring preliminary expenses?

Ans

Time of incurring expenses

Purpose of incurring expenses

Before commencement of business

For setting up of any undertaking or business

After commencement of business

Extension of the undertaking or setting up new unit

Q3.What will be the upper limit on such expenses?

Ans It depends on the type of assessee, whether corporate or non-corporate

Upper limit in the case of a corporate assessee

Upper limit in the case of a non-corporate assessee

a. 5 percent of cost of project; or

b. 5 percent of capital employed, whichever is more

5 per cent of cost of project

Q4.What will be quantum of deduction and for how many years same can be claimed?

Ans The maximum qualifying expenditure as computed above will be allowed as a deduction in 5 equal installments starting from the previous year in which the assessee commences business.

Two technical issues involved

On close reading of the above-referred problem of VBL, following two technical aspects emerge:

(1) What shall be the meaning of term "capital employed" for the purpose of computing upper limit?

(2) What shall be the value date for computing capital employed / cost of project? Shall we take it 31-03-20 being the last day of the previous year in which VBL got incorporated or shall we take it 31-03-2021 being the last day of the previous year in which VBL commenced the business operations?

Analysis and Conclusion

Both the above issues get resolved with the help of term "Capital Employed" for the purpose of section 35D. The term "Capital Employed" means the aggregate of the issued share capital, debentures and long-term borrowings, as on the last day of the previous year in which the business of the company commences.

Therefore, answer to the first issue is that total of the following three items shall be termed as capital employed:

a. Issued share capital
b. Debentures
c. Long-term borrowings.

 

Interestingly, the amount of "Paid up share capital" has no role to play while determining "Capital Employed".

And answer to the second issue is that value date for computing capital employed / cost of project would be 31-03-2021 being the last day of the previous year in which VBL commenced the business operations and not the last day of previous year in which assessee got incorporated.

Computation of deduction under section 35D in the hands of VBL

Finally, what shall be the amount of deduction under section 35D in the hands of VBL? Do post your answer in comment box.

You can also listen me

 

CA/CMA Final Direct Tax Laws and International Taxation Course Pack for May 21 / Nov 21 / June 21 / Dec 21 attempt by CA Mehul Thakker

  • Enroll Direct Tax Laws and International Taxation (CA Final New DT) for May 21/Nov 21, Click Here
  • Enroll Direct Taxation and International Taxation (CMA Final DT) for June 21 /Dec 21, Click here

Happy Learning,
All the best.

 

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Category Income Tax
Other Articles by - CA Mehul Thakker 




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