Commissioner of Income Tax vs Sea Hawk (I) (P.) Ltd.

Sengupta, J.—In this reference u/s 256 of the income tax Act, 1961, the Tribunal has referred to us the following question for opinion:

Whether, on the facts and in the circumstances of the case, the Tribunal was justified in upholding the finding of the Commissioner (Appeals) that the deduction u/s 80HH of the income tax Act, 1961 was to be computed on gross profit of business before setting off of the brought forward losses of the previous assessment years ?

Whether, on the facts and in the circumstances of the case, the Tribunal was justified in arriving at the conclusion that the ''building'' used as hotel in question was ''plant'' for the purpose of allowing depreciation u/s 32 of the income tax Act, 1961?

The facts found by the Tribunal are as follows. The assessee is Sea Hawk (I) (P.) Ltd. The assessment year involved is 1983-84.

The assessee, a private limited company, carries on hotel business by letting out furnished rooms. The building is used for running the hotel business including air-conditioning and other amenities. A restaurant is also run in the hotel. The assessee claimed before the ITO that the building used for the purpose of business should be treated as ''plant'' and depreciation on building should be allowed treating it as a plant. The ITO rejected the claim of the assessee and allowed normal depreciation on the building.

The assessee appealed to the Commissioner (Appeals) against the order of the ITO. The Commissioner (Appeals) following the decision of the Tribunal, D Bench Madras, in the case of Hotel Srilekha (P.) Ltd. v. Third ITO [1983] 5 ITD 541 directed the ITO to recompute the depreciation according to the assessee''s claim. Dissatisfied with the order of the Commissioner (Appeals), the department filed an appeal before the Tribunal. Following the decision of the Tribunal, D Bench, Madras, in the case of Hotel Srilekha (P.) Ltd. (supra), the Tribunal upheld the decision of the Commissioner (Appeals).

The assessee-company claimed relief u/s 80HH of the Act on the gross income before taking into account the brought forward losses of the earlier years. The ITO rejected the claim of the assessee on the ground that though the returned income of Rs. 1,12,131 resulted into a business income of Rs. 81,168 after final assessment, there was no profit after setting off of unabsorbed losses of the earlier years and, hence, the assessee was not entitled to relief u/s 80HH.

In the appeal filed by the assessee, the Commissioner (Appeals) relying on the decision of the Calcutta High Court in the case of Commissioner of Income Tax Vs. Orient Paper Mills Ltd., and the decision of the Supreme Court in the case of Cloth Traders (P) Ltd. Vs. Additional Commissioner of Income Tax , Gujarat-I, , directed the ITO to allow the relief on the gross total income before setting off brought forward losses.

In the appeal filed by the department, the Tribunal following the decision of the Tribunal, Madras Bench, in the case of Yenpeyees Rubber (P.) Ltd. v. First ITO [1983] 5 ITD 605, sustained the order of the Commissioner (Appeals) on the point.

We have heard the contentions of the learned counsels appearing for the parties who reiterated the argument urged before the Tribunal. Section 80HH falls under Chapter VIA of the Act containing the provisions for deduction from income in accordance with provisions of sections 80C to 80VV of the Act. Section 80HH provides for deduction in respect of profits and gains from a newly established industrial undertaking or a hotel business in backward areas. Sub-section (1) requires that the profits and gains derived by such a new industrial undertaking or a new hotel shall be deducted from the gross total income for the purpose of arriving at the total income of the assessee. The said sub-section (1) reads as follows :

Where the gross total income of an assessee includes any profits and gains derived from an industrial undertaking, or the business of a hotel, to which this section applies, there shall, in accordance with and subject to the provisions of this section, be allowed, in computing the total income of the assessee, a deduction from such profits and gains of an amount equal to twenty per cent thereof.

To appreciate the implication and import of the mandate in section 80HH, we have to refer to the definition of ''gross total income''. Gross total income is defined in section 80B of the Act under the chapter in following terms:

"Gross total income" means the total income computed in accordance with the provisions of this Act, before making any deduction under this Chapter.

This means that in the first instance total income has to be computed under the various heads of income in accordance with the method of computation prescribed for each such class of income. The aggregate of the incomes so arrived at under different heads shall be the gross total income. Again section 80AB of the Act inserted by the Finance Act, 1980 with effect from the assessment year 1981-82, clarifies that income in respect of which deduction is to be allowed has to be the amount of income of that particular nature eligible for deduction and shall have to be computed in accordance with the provisions of the Act and it is the product of such computation that shall alone be deemed to be the amount of income of that nature eligible for deduction. This means that in determining the amount of income of the nature that qualifies for deduction the gross amount has to be subjected to all the computation methods provided for in the Act. The carry-forward and set-off of the loss of the past year is also one method or one step in the process of computing income of a head or of a particular nature under head of income. This implies that only after exhausting set requirement of carry-forward and set-off of the past losses against the present profits and gains of the business that the profits and gains of the said undertaking or business can be determined so as to be a component of the gross total income. This is the position of law that emerges on the reading of the relevant provisions of Chapter VIA.

The reliance by the Tribunal on the decision of the Supreme Court in Cloth Traders (P.) Ltd.''s case (supra) is misplaced because it overlooks the fact that the said decision of the Supreme Court has been over-ruled by the later decision of a larger bench of the Supreme Court in Distributors (Baroda) Pvt. Ltd. Vs. Union of India (UOI) and Others, . In Cloth Traders'' case (supra) the Supreme Court took the view that section 80M having prescribed that where the gross total income of a domestic company includes any income by way of any dividend from another domestic company, deduction shall be available to certain percentage of the income by way of dividends and it is the gross dividend before adjustment of any expenditure incurred for the purpose of earning the dividend which is entitled to deduction from the gross total income. According to the Supreme Court, the special income by way of dividend means gross dividend and not net dividend income. In Distributors (Baroda) (P.) Ltd.''s case (supra), this view was reversed and it was held that deduction is admissible only on net income and not on gross income by way of dividend.

In this connection reference is made to Cambay Electric Supply Industrial Co. Ltd. Vs. The Commissioner of Income Tax, Gujarat-II, Ahmedabad, . In that case the assessee was carrying on the business of industry specified u/s 80E as it stood prior to amendment by the Finance Act, 1967, for the purpose of the special deduction permissible thereunder. On sale of old machinery and buildings the balancing charge arose u/s 41(2) of the Act and was included in the income of the business in terms of the provisions of said section 41(2). Besides, there were items of unabsorbed depreciation and unabsorbed development rebate carried forward from earlier years. Now the question arose whether the deduction at the rate of 8 per cent of the profit and gains of the said business in priority industry should be computed with reference to the profits of the year before making the adjustment for unabsorbed depreciation and unabsorbed development rebate or after such adjustment. The Supreme Court held that the important words in section 80E(1) are those appearing in parenthesis ''as computed in accordance with the provisions of this Act''. Since it is income from business the same, in view of section 29 of the Act, has to be computed in accordance with sections 30 to 43A of the Act which would include section 41(2), section 32(2), section 33(2). Thus, the balancing charge, the carry-forward of depreciation and carry forward of development rebate shall first be adjusted against the income of the assessee''s priority industry. It was further held that the provisions for carry forward of unabsorbed loss for future set off as contained in section 72(1) of the Act shall also have its impact on the computation of the profits and gains of the business. The Supreme Court held that the aggregation of income and set off and carry forward of loss is also part of computation of income falling within the scope of the words ''computed in accordance with the provisions of this Act''. The Supreme Court in Cambay Electric Supply Industrial Co. Ltd.''s case (supra) examined the view of the Kerala High Court in Indian Transformers Ltd. Vs. Commissioner of Income Tax, where the Kerala High Court regarded section 72 as a provision unconnected with the computation of the total income of the assessee and provision which comes into operation at a stage subsequent to the computation of the total income arising from business. The Supreme Court did not accept this view and observed :

...It is not possible to accept the view that section 72 has no bearing on, or is unconnected with, the computation of the total income of an assessee under the head ''Profits and gains of business or profession''. Actually, section 72(1) provides that where the net result of computation under the head ''Profits and gains of business or profession'' is a loss and such loss cannot be or is not wholly set off against the income under any head of income in accordance with the provisions of section 71, so much of the loss as has not been so set off, subject to the other provisions of the Chapter, shall be carried forward to the following assessment year and shall be set off against the profits and gains, if any, of any business or profession for that assessment year. Therefore, section 72(1) has a direct impact upon the computation under the head ''Profits and gains of business or profession''. In other words, the correct figure of total income which is otherwise taxable under other provisions of the Act, cannot be arrived at without working out the net result of computation under the head ''Profits and gains of business or profession''. Further, the question whether special benefit u/s 80E as well as the normal or usual benefit of carry forward of losses of previous years should both be available to an assessee, without one impinging on the other must depend upon the intention of the Legislature and such intention has to be gathered from the language employed. In this view of the matter it is extremely doubtful whether in spite of the legislative mandate contained in the three steps provided for by sub-section (1) of section 80E, the carried forward losses would not be deductible before working out the 8 per cent deduction contemplated by section 80E and, therefore, the contention that by parity of reasoning or on a priori reasoning unabsorbed development rebate and unabsorbed depreciation should be held to be non-deductible before working out the 8 per cent deduction u/s 80E(1) cannot be accepted. As observed earlier, on a proper construction of the provision contained in sub-section (1) of section 80E, items like unabsorbed depreciation and unabsorbed development rebate will have to be deducted in arriving at the figure which would be exigible to deduction of 8 per cent u/s 80E(1). (p. 97)

It is also a point of interest to note that the larger Bench of the Supreme Court in Distributors (Baroda) (P.) Ltd.''s case (supra) observed that the ratio in Cambay Electric Supply Industrial Co. Ltd.''s case (supra) was a correct one and the decision in Cloth Traders (P.) Ltd.''s case (supra) was wrongly taken and taken in oversight of the principle laid down by Cambay Electric Supply Industrial Co. Ltd.''s case (supra).

Therefore, we have no hesitation to say that the Tribunal erred in following the ratio in Cloth Traders (P.) Ltd.''s case (supra) and in holding that the assessee is entitled to the deduction of the profits and gains from its new hotel business before adjustment of the past unabsorbed loss carried forward for set off.

The second question relating to the allowability of the depreciation on building on the basis that the building for a hotel is a plant stands concluded by the judgment of this Court delivered in the case of S.P. Jaiswal Estates (P.) Ltd. [IT Reference No. 122 of 1991, dated 10-2-1994]. Following the said decision we hold that the building is a distinct category of asset, independent and a class by itself and the statutory provision requires it to be treated as such and not as an item of general plant and machinery, no matter whether functionally the building of the hotel is more than a building. Following our earlier decision in the aforesaid case, we hold that the hotel building is to be depreciated at the rate appropriate for a building and not at the rate applicable to a general plant.

Thus, we answer both the questions in the negative and in favour of the revenue and against the assessee. There will be no order as to costs.

Sen, J.

I agree.