Evolving Compliance Obligations under the Tonnage Tax Scheme: Clause 232(1)-(11) of the Income Tax Bill, 2025 Vs. Section 115VT of the Income-tax Act, 1961

Clause 232 Certain conditions for applicability of tonnage tax scheme.

Income Tax Bill, 2025

Introduction

The taxation of shipping companies under a tonnage tax regime represents a specialized and internationally recognized approach to the computation of taxable income, distinct from the standard corporate tax framework. Clause 232 of the Income Tax Bill, 2025, introduces comprehensive conditions for the applicability of the tonnage tax scheme, focusing on the creation and utilization of the Tonnage Tax Reserve Account. These provisions are designed to ensure that companies benefiting from the tonnage tax regime reinvest a portion of their profits in the shipping sector, thereby contributing to the growth and modernization of the national fleet.

Section 115VT of the Income-tax Act, 1961, currently governs similar conditions for the applicability of the tonnage tax scheme, particularly concerning the transfer of profits to a reserve account and its subsequent utilization. The 2025 Bill, while largely retaining the core structure and intent of Section 115VT, introduces several nuanced changes and clarifications that reflect evolving policy objectives and practical considerations.

This commentary provides a clause-by-clause analysis of Clause 232(1)-(11) of the Income Tax Bill, 2025, with a detailed comparative assessment vis-`a-vis the corresponding provisions of Section 115VT. The analysis covers legislative intent, operational mechanics, interpretative challenges, and practical implications for stakeholders, with a focus on the broader legal and policy context.

Objective and Purpose

The legislative intent behind both Clause 232 and Section 115VT is to promote the growth of the Indian shipping industry by offering a concessional and simplified tax regime, provided certain conditions are met. The mandatory creation of the Tonnage Tax Reserve Account ensures that a portion of the profits derived from shipping operations is earmarked for reinvestment in new ships or inland vessels, thereby facilitating fleet renewal and expansion. This mechanism also seeks to prevent the diversion of tax-advantaged profits for non-core purposes and aligns with international best practices in maritime taxation.

The policy considerations underlying these provisions include:

• Encouragement of capital investment in the shipping sector;
• Ensuring the competitiveness of Indian shipping companies vis-`a-vis their global counterparts;
• Preventing misuse of the tonnage tax regime by imposing strict conditions on the use of tax-deferred profits;
• Providing a clear compliance framework to minimize disputes and facilitate enforcement.

Detailed Analysis of Clause 232(1)-(11) and Comparison with Section 115VT

1. Requirement to Credit Profits to Tonnage Tax Reserve Account [Clause 232(1) vs. Section 115VT(1)]

Clause 232(1): Mandates that a tonnage tax company must credit to the Tonnage Tax Reserve Account at least 20% of the book profit derived from qualifying shipping activities every tax year. The credited amount must be utilized in accordance with sub-section (6).

Section 115VT(1): Contains a similar requirement, stipulating a minimum of 20% of book profit to be credited to the reserve account. It also allows for the transfer of an amount in excess of 20%, with the excess similarly subject to utilization requirements.

Comparison: The core requirement is substantially identical in both provisions. However, the Bill uses more contemporary terminology ("tax year" instead of "previous year") and references to updated sections (e.g., section 228(1)(a) and (b) in the Bill vs. section 115V-I(1)(i) and (ii) in the Act). The Bill also omits the explicit statement found in Section 115VT(1) that allows for transfer of sums in excess of 20%, though this is implicit in the "20% or more" language.

Implications: The mandatory reserve creation serves as a gatekeeper for access to the tonnage tax regime, ensuring that tax benefits are tied to reinvestment in core shipping assets.

2. Definition of Book Profit [Clause 232(2) vs. Section 115VT(1) Explanation]

Clause 232(2): Defines "book profit" by reference to section 206(2), limited to income from qualifying shipping activities.

Section 115VT(1) Explanation: Refers to the Explanation to section 115JB(2), again restricted to qualifying shipping income.

Comparison: Both provisions ensure that only profits from qualifying shipping activities are considered, excluding other business streams. The Bill updates the cross-reference to reflect the new legislative structure.

Implications: This ensures that the reserve is proportionate to the actual shipping activity and not diluted by unrelated business operations.

3. Treatment of Book Losses and Shortfall in Reserve Creation [Clause 232(3)-(5) vs. Section 115VT(2)]

Clause 232(3): If a company has book profit from qualifying shipping but a book loss from other sources, and cannot create the full reserve, it must create the reserve to the extent possible. Any shortfall is carried forward to the next tax year and deemed part of that year's requirement.

Clause 232(4): Clarifies that, to the extent the shortfall is carried forward, the company is deemed to have created sufficient reserves for the first year.

Clause 232(5): Provides that if the shortfall continues for two consecutive years, the deeming provision does not apply for the second year.

Section 115VT(2): Contains nearly identical language and structure, with the same carry-forward and deeming provisions, and a similar two-year limitation.

Comparison: The Bill closely tracks the Act, with minor changes in terminology ("tax year" vs. "previous year"). The structure and operation of the provisions are essentially the same.

Implications: This framework provides flexibility for companies facing temporary losses, while imposing a strict two-year limit to prevent indefinite deferral of reserve creation.

4. Utilization of the Tonnage Tax Reserve Account [Clause 232(6) vs. Section 115VT(3)]

Clause 232(6): Amounts credited to the reserve must be used within eight years for acquiring a new ship or new inland vessel. Until such acquisition, the funds must not be used for distribution as dividends, remittance outside India, or creation of assets outside India.

Section 115VT(3): Mirrors this requirement, with identical eight-year utilization period and restrictions on interim use.

Comparison: The provisions are functionally equivalent. The Bill uses slightly updated language ("before the expiry of eight years following the tax year" vs. "before the expiry of a period of eight years next following the previous year").

Implications: The time-bound utilization requirement ensures that tax-advantaged profits are reinvested promptly in shipping assets, supporting fleet renewal.

5. Consequences of Misuse or Non-Utilization of Reserve [Clause 232(7)-(8) vs. Section 115VT(4)]

Clause 232(7): If the reserve is used for non-permitted purposes, not used within eight years, or the acquired ship is sold/transferred within three years (except in a demerger), a proportionate amount becomes taxable under normal provisions in the relevant year.

Clause 232(8): Provides for a reduction of the taxable amount by the proportionate tonnage income charged to tax in the year the reserve was created.

Section 115VT(4): Contains the same three triggers for re-taxation, the same proportionality formula, and the same reduction for proportionate tonnage income.

Comparison: The mechanisms are identical. The Bill clarifies the timing of taxation and maintains the same exceptions (e.g., demerger).

Implications: These provisions serve as anti-abuse measures, deterring the diversion of reserves and ensuring the integrity of the tonnage tax regime.

6. Shortfall in Reserve Creation and Tax Consequences [Clause 232(9) vs. Section 115VT(5)]

Clause 232(9): If the reserve credited is less than the required minimum, a proportionate amount of shipping income is excluded from the tonnage tax scheme and taxed under normal provisions.

Section 115VT(5): Contains the same proportionality approach and consequence.

Comparison: Both provisions apply a formulaic approach to partial non-compliance, ensuring that only the compliant portion of income enjoys the tonnage tax benefit.

Implications: This acts as a partial penalty for under-crediting, providing a clear compliance incentive.

7. Cessation of Tonnage Tax Option for Persistent Non-Compliance [Clause 232(10) vs. Section 115VT(6)]

Clause 232(10): If the required reserve is not created for two consecutive years, the tonnage tax option ceases from the following year.

Section 115VT(6): Contains an identical provision.

Comparison: Both provisions establish a strict compliance threshold, with loss of regime benefits for persistent non-compliance.

Implications: This creates a strong deterrent against repeated failure to meet reserve requirements, reinforcing the scheme's integrity.

8. Definition of "New Ship" or "New Inland Vessel" [Clause 232(11) vs. Section 115VT Explanation]

Clause 232(11): Defines "new ship" or "new inland vessel" to include a qualifying ship previously used by another (non-resident) person, provided it was not owned by an Indian resident prior to acquisition by the qualifying company.

Section 115VT Explanation: Contains the same definition, updated via recent amendments to include inland vessels.

Comparison: The definition is harmonized across both provisions, ensuring clarity and consistency.

Implications: This allows for the acquisition of second-hand foreign ships to qualify as "new," supporting fleet expansion from global markets.

Practical Implications

The practical impact of these provisions is significant for shipping companies:

• Compliance Burden: Companies must maintain meticulous records of book profits, reserve creation, and utilization, with potential tax consequences for any missteps.
• Investment Incentive: The regime incentivizes reinvestment in shipping assets, aligning tax benefits with national maritime policy goals.
• Risk of Loss of Benefits: Persistent non-compliance leads to loss of tonnage tax status, with substantial tax cost implications.
• International Alignment: The provisions align with international best practices, supporting the competitiveness of Indian shipping companies.

Comparative Analysis with Section 115VT of the Income-tax Act, 1961

A close textual and functional comparison reveals that Clause 232(1)-(11) of the Income Tax Bill, 2025, is largely a restatement and consolidation of Section 115VT of the Income-tax Act, 1961, with some linguistic modernization and minor clarifications. The essential architecture of the reserve creation, utilization, consequences of default, and definitions remain unchanged.

Key Similarities:

• Minimum 20% of book profit to be credited to the reserve account annually.
• Utilization of reserve within eight years for acquisition of new ships/inland vessels.
• Carry-forward of reserve shortfall for one year, with cessation of benefit after two consecutive years of default.
• Proportional clawback of tonnage tax benefit in case of misuse or non-utilization of reserves.
• Definition of "new ship" or "new inland vessel" includes second-hand foreign vessels not previously owned by Indian residents.

Key Differences and Clarifications:

• Clause 232 of the 2025 Bill refers to updated section numbers (e.g., section 206(2) instead of section 115JB(2)), reflecting the structural reorganization of the new Act.
• Language has been modernized for clarity and consistency with the rest of the Bill.
• Both provisions have been updated (through Finance Act, 2025 amendments) to include "new inland vessels" alongside ships, reflecting changes in the industry and policy priorities.

No substantive changes in policy or operational requirements are introduced by Clause 232(1)-(11) compared to Section 115VT, ensuring continuity and predictability for industry stakeholders.

Conclusion

Clause 232(1)-(11) of the Income Tax Bill, 2025, represents a careful evolution of the existing Section 115VT framework, preserving its core objectives while introducing clarifications and updates to reflect the current legislative context. The provisions are designed to ensure that the tonnage tax regime remains both attractive and robust, balancing the need for investment incentives with strict compliance requirements. The comparative analysis reveals a high degree of continuity, with the Bill offering incremental improvements rather than wholesale changes. Stakeholders must remain vigilant in complying with the reserve requirements and utilization conditions, as the consequences of non-compliance are both immediate and severe.

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Full Text:

Clause 232 Certain conditions for applicability of tonnage tax scheme.

 

Dated: 28-5-2025