Meaning of Income as per Black's Law Dictionary: The return in money from one’s business, labour, or capital invested; gains, profit, or private revenue..”Income” means that which comes in or is received from any business or investment of capital, without reference to the outgoing expenditures; while “profits” generally means the gain which is made upon any business or investment when both receipts and payments are taken into account. “Income,” when applied to the affairs of individuals, expresses the same idea that “revenue” does when applied to the affairs of a state or nation.
In simple words Income tax is levied on income which has been received or has accrued. Income is said to be accrued when it becomes due, but it must also be accompanied by the corresponding liability of the other party to pay the amount. Only then an income will be said to have accrued and is not a hypothetical income.
The incidence of taxing any income is based on actual receipts or at the time of accrual; but the substance of matter is the income. No income no tax is the basic principle on which the whole system of the direct tax is based on. If the income does not result at all, there cannot be a tax, even if the entry in the books of accounts is made about a Hypothetical Income which does not materialise. A situation where income has accrued but was written off due to non-recovery of the same due to unavoidable circumstances beyond the control of the recipient no tax will have to be charged e.g. as in the case of bad debts written off. In case income has accrued but subsequently given up willingly in such cases the income will remain as income of the recipient and will be liable to tax. Even though accounting entries have been made with respect of certain income which has neither been received nor accrued the same cannot be taxed.
In the case of Commissioner of Income Tax (Appellant) vs Excel Industries Ltd (Respondent) assessing officer added back amounts shown by the assessee in its balance sheet as licence benefit receivable and duty entitlement pass book benefit receivable accruing against export of goods to the returned income by referring section 28(iv) of the income tax act “ the value of any benefit or perquisite, whether convertible into money or not, arising from business or the exercise of a profession.”
The question before the appellate authority was whether the benefit of an entitlement to make free imports of raw materials obtained by the assessee through advance licences and duty entitlement pass book issued against export obligations is income in the year in which exports were made or in the year in which duty-free imports are made. The assessing officer was of the view that along with an obligation of export commitment, the assessee gets the benefit of importing duty free raw material. Once the export is fulfilled the exporter gets the absolute right to receive the benefits. The respective entries to recognise such benefits in the books of account were based on such vested and absolute right. In lieu of section 28(iv) of the income tax act such benefits must be treated as income of the current year according to the ordinary principles of commercial accounting.
The Commissioner of Income Tax (Appeals) and the Tribunal (ITAT) decided the matter in favour of assessee since “income does not accrue until the imports are made and raw materials are consumed by the assessee.” There was no dispute between the revenue authorities and the assessee that it was only in the subsequent year the import of raw material was made and the same was consumed. Hon'ble Supreme Court in the case of CIT Vs. Shoorji Vallabhdas & Co.  46 ITR 144 (SC) held Income-tax is a levy on income. No doubt, the IT Act takes into account two facts on the happening of which the liability to tax is attracted, ITA Nos.202 & 693/B/18 viz., the accrual of the income or its receipt; but the substance of the matter is the income. If income does not result at all, there cannot be a tax, even though in bookkeeping, an entry is made about a "hypothetical income", which does not materialise.
In the case of Godhra Electricity Co. Ltd. v Commissioner of Income Tax,  225 ITR 746 (SC) it was observed that assessee would be obliged to pay tax only on such income which has been received or accrued when it is based on and backed by any legal or contractual right to receive the amount at a subsequent date.
To determine whether an income can be taxed or not the following points need to be kept into consideration:
1.Whether the income accrued to assessee is real or hypothetical and backed by any legal or contractual right.
2. The consistent view must be maintained by the department unless there is visible variation in the working and change in method of recognition of revenue by the organization. Even if we agree that each assessment year is an independent unit still the department is under obligation to maintain consistency. In the case of Parashuram Pottery Works Ltd v Income Tax Officer,  106 ITR 1 (SC) on the issue of consistency held that “Revenue cannot be allowed to flip-flop on the issue, and it ought let the matter rest rather than spend the tax payer’s money in pursuing litigation for the sake of it.”
3. Finally, the real question is whether the assessee is required to pay tax on an income during a year or not. One need to ensure that there will be no dispute on taxing an income during the subsequent year. Keeping in view the taxing of benefits resulting in meeting the obligation of exports in a year which materialised in the subsequent year and since department was not deprived of the tax, maybe a little difference due to change in rates of tax. Raising dispute by the assessing officer, the matter was more academic than real. The nature of income was hypothetical not real.
Conclusion: There are a number of case laws differentiating taxable income and hypothetical income. The decisions pronounced by various appellate authorities have been in favour of the assessee and against revenue as far as taxing of hypothetical income is concerned.
Note: Refer Civil Appeal Number 125 of 2013. Commissioner of Income Tax …….Appellant Versus M/S Excel Industries Ltd………Respondent and related case laws. Also please refer Income Tax Act 1961.
Tags :Income Tax