To Save Penalty Offer Cess to Tax If Claimed as Deduction in Earlier Years

CA. Manoj Gupta

1. Introduction

As per section 40(a)(ii) any sum paid on account of any rate or tax levied on the profits or gains of any business or profession or assessed at a proportion of, or on the basis of any such profits or gains, is not deductible.

However, following taxes are allowable :

(i) Profession tax.

(ii) Amount paid for carrying on business in the particular premises and payment not on the basis of profits or gains, is not covered by section 40(a)(ii) and is deductible under section 30.--Vide CIT v. Chuni Lal Rameshwar Lal (1968) 70 ITR 167 (Pat).

2. The controversy

In CIT v. Chambal Fertilizers and Chemicals Ltd. 2018 TaxPub 5619 (Raj-HC), the High Court held that, in view of the circular of CBDT where word 'Cess' is deleted, the Tribunal has committed an error in not accepting the contention of the assessee. The cess is not tax and thus not hit by section 40(a)(ii).

In the case of Sesa Goa Limited v. JCIT 2020 TaxPub(DT) 1981 (Bom-HC), the Hon'ble High Courts relied upon the CBDT Circular dt.18-5-1967 and in view of the interpretation made by the CBDT have held that 'education cess' can be claimed as an allowable deduction while computing the income chargeable under the heads 'profits and gains of business or profession'. Based on these decisions ITAT in various judgments have followed the same reasoning and have allowed deduction on account of payment of 'Cess'.

However, one of the latest judgments of ITAT Kolkata has discussed the two High Court judgments as well as other judgments vide Order dated 26-10-2021 in the case of M/s. Kanoria Chemicals & Industries Ltd. v. Addl. CIT 2021 TaxPub 6074 (Kol-Trib) and has held that cess is not to be allowed as deduction.

Therefore, certain taxpayers claimed deduction on account of 'cess' or 'surcharge' under section 40 of the Act claiming that 'cess' has not been specifically mentioned in the aforesaid provisions of section 40(a)(ii) and, therefore, cess is an allowable expenditure. This view has been upheld by Courts in a few judgments. Further, courts were also relying upon the CBDT Circular No. 91/58/66-ITJ(19), dtd. 18-5-1967.

3. CBDT circular and departmental view

The Circular, dated 18-5-1967 issued by CBDT and relied upon by Rajasthan High Court is being reproduced as under:

'Interpretation of provision of section 40(a)(ii) of Income Tax Act, 1961--Clarification regarding 18-05-1967 Business Expenditure Section 40(a)(ii),

Recently a case has come to the notice of the Board where the ITO has disallowed the 'cess' paid by the assessee on the ground that there has been no material change in the provisions of section 10(4) of the old Act and section 40(a)(ii) of the new Act.

2. The view of the ITO is not correct. Clause 40(a)(ii) of the IT Bill, 1961 as introduced in the Parliament stood as under: '(ii) any sum paid on account of any cess, rate or tax levied on the profits or gains of any business or profession or assessed at a proportion of, or otherwise on the basis of, any such profits or gains'. When the matter came up before the Select Committee, it was decided to omit the word 'cess' from the clause. The effect of the omission of the word 'cess' is that only taxes paid are to be disallowed in the assessments for the year 1962-63 and onwards.

3. The Board desire that the changed position may please be brought to the notice of all the ITOs so that further litigation on this account may be avoided.'

In the above referred Circular issued by CBDT, 'Cess' is to be allowed under sub-clause (ii) of clause (a) of section 40 of the Act. However, it is to be noted that 'Cess' is imposed not only by the Central Government through the Finance Act for a financial year, but also by various State Governments. It is pertinent to mention that in the above referred Circular of CBDT, there is no reference to the 'Cess' imposed by the Central Government through the Finance Act for a particular year. This CBDT circular needs to be seen from the perspective that 'Education Cess' imposed by Finance Act, 2004 and subsequent Acts and then designated as 'Education and Health Cess' are actually tax in the form of additional surcharge, as stated clearly in each of the relevant Finance Act imposing such 'Cess'. It is only called 'Cess' since they were imposed for a particular purpose of fulfilling the commitment of the Government to provide and finance quality health services and universalized quality basic education and secondary and higher education.

This circular was in reference to 'Cess' imposed by State Government which is actually of the nature of 'Cess' and not of the nature of 'Additional Surcharge' being termed as 'Cess' in the relevant Finance Act. When an additional surcharge is imposed by the Central Government and it is named as 'Cess', then its allowability needs to be examined whether an additional surcharge is allowed to be a deduction or not. Hon'ble Supreme Court in the case of K Srinivasan 1972 TaxPub(DT) 0352 (SC) : (1972) 083 ITR 0346 : (1972) 001 CTR 0090 has held that 'surcharge' and 'additional surcharge' are tax. Hence, the additional surcharge named as 'Cess' and imposed by the Central Government through the Finance Act is nothing but a tax and hence, needs to be disallowed under sub-clause (ii) of clause (a) of section 40 of the Act. The relevant part of Hon'ble Supreme Court judgment is as under:

'7. The above legislative history of the Finance Acts, as also the practice, would appear to indicate that the term 'Income tax' as employed in section 2 includes surcharge as also the special and the additional surcharge whenever provided which are also surcharges within the meaning of Article 271 of the Constitution. The phraseology employed in the Finance Acts of 1940 and 1941 showed that only the rates of income-tax and super tax were to be increased by a surcharge for the purpose of the Central Government. In the Finance Act of 1958 the language used showed that income tax which was to be charged was to be increased by a surcharge for the purpose of the Union. The word 'surcharge' has thus been used to either increase the rates of Income tax and super tax or to increase these taxes. The scheme of the Finance Act of 1971 appears to leave no room for doubt that the term 'Income tax' as used in section 2 includes surcharge.'

Since the judgments of Rajasthan High Court and Bombay High Court did not consider the judgment of Hon'ble Supreme Court discussed above, the judgments of these two High Courts appear to be per incuriam. It may be mentioned that in paragraph 578 at page 297 of Halsbury's Laws of England, Fourth Edition, the rule of per incuriam is stated as follows:

'A decision is given per incuriam when the court has acted in ignorance of a previous decision of its own or of a court of co-ordinate jurisdiction which covered the case before it. in which case ft must be decided which case to follow; or when it has acted in ignorance of a House of Lords decision, in which case it must follow that decision; or when the decision is given in ignorance of the terms of a statute or rule having statutory force.'

From the above discussion it may be seen that the interpretations of two High courts and various ITATs are against the intention of legislature and not in line with the judgment of Hon'ble Supreme Court.

2. Cess or surcharge to be disallowed retrospectively

In order to make the intention of the legislation clear and to make it free from any misinterpretation, an Explanation 3 has been inserted retrospectively in the Act itself to clarify that for the purposes of section 40(a)(ii) the term 'tax' includes and shall be deemed to have always included any surcharge or cess, by whatever name called, on such tax. Amendment is made retrospectively to make clear the position irrespective of the circular of the CBDT. It may be noted that section 2(43) defining the expression tax have not been amended and thus cess or surcharge will form part of tax only for the purposes of section 40(a)(ii).

The amendment relating to section 40 takes effect retrospectively from 1st April, 2005 and accordingly applies In relation to the assessment year 2005-06 and subsequent assessment years.

3. Rectification of assessments

A new sub-section (18) has been inserted in section 155 from 1-4-2022 so as to provide that where any deduction in respect of any surcharge or cess, which is not allowable as deduction under section 40, has been claimed and allowed in the case of an assessee in any previous year, such claim shall be deemed to be under-reported income of the assessee for such previous year for the purposes of sub-section (3) of section 270A, notwithstanding anything contained in sub-section (6) of section 270A, and the assessing officer shall recompute the total income of the assessee for such previous year and make necessary amendment, and the provisions of section 154 shall, so far as may be, apply thereto, the period of four years specified in sub-section (7) of section 154 being reckoned from the end of the previous year commencing on the 1st day of April 2021.

It is provided that in a case where the assessee makes an application to the Assessing Officer in the prescribed form and within the prescribed time, requesting for recomputation of the total income of the previous year without allowing the claim for deduction of surcharge or cess and pays the amount due thereon within the specified time, such claim shall not be deemed to be under-reported income for the purposes of sub-section (3) of section 270A.

4. Procedural Aspects

(i) The Income-tax (32nd Amendment) Rules, 2022 has inserted a new rule 132 so as to provide that an application requesting for recomputation of total income of the previous year without allowing the claim for deduction of surcharge or cess, which has been claimed and allowed as deduction under section 40 in the said previous year, shall be made in Form No. 69 on or before the 31st day of March, 2023.

(ii) Form No. 69 shall be furnished electronically to the Principal Director General of Income-tax (Systems) or the Director General of Income-tax (Systems) or the person authorized by the Principal Director General of Income-tax (Systems) or the Director General of Income-tax (Systems).

(iii) The Assessing Officer shall, on receipt of the application in Form No. 69, recompute the total income by amending the relevant order and issue notice under section 156 specifying the time period within which amount of tax payable, if any, is to be paid,--

(i) for the assessment year relevant to the previous year referred to above ; and

(ii) for the assessment years subsequent to the assessment year for which application is filed in form no. 69, if the order for such assessment year results in variation in carry forward of loss or allowance for unabsorbed depreciation or credit for tax under section 115JAA or section 115JD.

(iv) The assessee shall, after making the payment of the tax determined as above, furnish the details of payment of tax in Form No. 70 to the Assessing Officer within thirty days from date of making the payment.

5. Caution

If above steps are not taken before 31.03.2023 then the assessee may have to pay penalty in terms of section 270A.