TMI Blog1975 (12) TMI 61X X X X Extracts X X X X X X X X Extracts X X X X ..... assessee had suffered business losses of Rs. 2,43,339 which were carried forward from the years 1964-65, 1965-66 and 1966-67. It has also carried forward unabsorbed depreciation for all these three previous years amounting to Rs. 46,696. It is also an admitted position that for the current year 1967-68, the assessee was to absorb the current depreciation of Rs. 27,047. Since the assessee had earned business profit of Rs. 2,18,488 without deducting the current depreciation, the question which arose during the course of the assessment was whether the carried forward business loss of Rs. 2,43,339 should first be deducted from the above stated profit of of Rs. 2,18,488 or whether from the said profit, the current depreciation of Rs. 27,047 should first be deducted and thereafter the carried forward loss of Rs. 2,43,339 should be deducted. It should be mentioned here that for this assessment year 1967-68, the assessee had also the income of Rs. 48,105 from other sources. What the Income-tax Officer, who has carried out the assessment, has done is to deduct the current depreciation of Rs. 27,047 from the profit of Rs. 2,18,488. This gave the balance of Rs. 1,81,041. From this, carried f ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... legally set off against this amount and if that was done, there would have been the net profit in the non-business income amounting to Rs. 16,902. Thus, according to the assessee, if this method of adjustment had been followed, it would have been able to carry forward a small loss of Rs. 24,851 and nil unabsorbed depreciation to the next year. The assessee's suggested method of adjustment was rejected by the Income-tax Officer as well as by the Appellate Assistant Commissioner in appeal with the result that the assessee approached the Appellate Tribunal in appeal. The Tribunal considered the provisions of sub-section (2) of section 32, which contains a deeming fiction that carried forward depreciation should be treated as current year's depreciation by clubbing the same with the current year's depreciation. In this connection, the Tribunal relied upon certain observations made by the Supreme Court in Commissioner of Income-tax v. Jaipuria China Clay Mines (P.) Ltd., and came to the conclusion that the lower authorities were not justified in not giving priority to the adjustment of the carried forward loss as against current year's depreciation for assessment year 1967-68 in vie ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... split up the current year's depreciation from the carried forward depreciation and to give priority to the current year's depreciation over the carried forward business loss in the set-off against the current year's business profit, in spite of the deeming fiction contemplated by sub-section (2) of section 32 ? Before discussing this question, it would be necessary to note some legal implications of the relevant provisions of law. Section 32 of the Act deals with deduction in the form of depreciation allowance, and is one of the sections which must be taken into consideration for determining the taxable " profits and gains of business ". Sub-section (2) of this section permits the assessee to carry forward unabsorbed depreciation in case the profits for a particular year are found to be insufficient for absorbing the whole amount of depreciation admissible for that year. The provisions of this sub-section are very much relevant for the purpose of this reference and hence it would be necessary to quote the relevant portions thereof as under : " (2) Where, in the assessment of the assessee, ...... full effect cannot be given to any allowance under ............ in any previous y ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ed forward under section 24, but is the losses can be carried forward only for six years under section 24(2), the assessee would in certain circumstances have in his books losses which he would not be able to set off. It seems to us that the legislature, in view of this, gave a preference to the deduction of losses first. But it is wrong to assume that section 24(2) also deals with the carrying forward of depreciation. This carry-forward having been provided in section 10(2)(vi) and in a different manner, section 24(2) only deals with losses other than the losses due to depreciation." These observations make it clear that provisions of sub-section (2) of section 72 have an overriding effect on the deeming fiction contained in sub-section (2) of section 32. Before refering to the terms of sub-section (2) of section 72 it should be noted that section 72 contemplates carrying forward and setting off of business losses. At the relevant time such business losses could be carried forward only for 8 years. Now, it is evident that if the deeming fiction contemplated by sub-section (2) of section 32 is operative without being subjected to sub-section (2) of section 72, then the current d ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... of this sub-section is rather cryptic, but, on a plain reading, it conveys that if, in a case, the depreciation allowance is required to be " carried forward " as contemplated by sub-section (2) of section 32, effect shall first be given to the provisions of section 72 before any effect is given to the depreciation which is " carried forward ". Shri Shah, who appears on behalf of the assessee, however, contends, relying upon the above quoted observations of the Supreme Court in the case of Jaipuria China Clay Mines (P.) Ltd., that the effect of sub-section (2) of section 72 is to postpone the adjustment of all depreciation allowances including the current depreciation allowance till the carried forward losses are adjusted against the profits and gains from the business. We shall advert to the decision given by the Supreme Court in Jaipuria China Clay Mines (P.) Ltd. subsequently, but before doing so, it would be necessary to construe the language of sub-section (2) of section 72. As already stated by us above, on a plain reading, this sub-section (2) says that whenever any allowance or part thereof is to be " carried forward ", the effect should first be given to the provisions ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... it does not follow that sub-section (2) of section 72 brings in, even the deeming fiction, for treatment. Sub-section (2) of section 32 is in two parts and provides for two things. Its first part provides for carrying forward of unabsorbed depreciation and in its second part provides for clubbing the said carried forward depreciation with the current year's depreciation and deeming the aggregate to be the current year's depreciation. Therefore, when sub-section (2) of section 72 refers to an allowance which is to be " carried forward ", it refers to the first part of sub-section (2) of section 32, which enables an assessee to carry forward unabsorbed depreciation and not the second part which creates the deeming fiction. This is evident from the fact that this second part of sub-section (2) of section 32 is made " subject to " the provisions of sub-section (2) of section 72. The fact that the deeming fiction of sub-section (2) of section 32 is not made absolute, and is to be operative subject to the provisions of sub-section (2) of section 72 shows, beyond any dispute, that before giving effect to the deeming fiction, provisions of sub-section (2) of section 72 have to be worked o ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... as will be see presently. In Spicer Pegler's book on Practical Auditing, fourth Indian edition, by Shri S. V. Ghatalia, we find the following useful observations at page 170 : " Depreciation may be defined as the measure of the exhaustion of the effective life of an asset from any cause during a given period. If an asset has been acquired for the purpose of being utilized to earn income and in the course of such process it becomes worn out or obsolete, such expired capital outlay is a loss which should be set off against the income derived from working the asset, before the balance of divisible profit can be ascertained. If this is not done the profit and loss account will not show the correct profit for the period, and the balance-sheet cannot be said to represent a true and correct view of the state of the affairs of the business, inasmuch as the assets will remain at their original cost, notwithstanding the fact that depreciation has taken place. Moreover, the profits for the period will not have been charged with the proportion of the original cost which has been absorbed within that period. " In William Pickles' book on Accountancy, 3rd edition, we find the followin ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ned. In the present case the 'Buildings and Machinery Depreciation Fund' account represents the amounts deducted year after year by way of depreciation in order to arrive at the true profits of the company." Then, at the end of the judgment, this court has further observed : " If it is intended to suggest that depreciation in every case comes out of the profits of a company, with great respect, we are unable to agree with the same. Such observations would be contrary to the fundamental notion of commercial profits. Profits in the commercial sense can only be ascertained after taking into account depreciation. The Correct amount representing depreciation does not come out of the profits of the company." These observations make it clear that the basic accountancy principles with regard to the depreciation, as quoted by us above, from Spicer Pegler as well as from William Pickles, have been judicially recognised. We find that the Supreme Court has also made similar observations in Jaipuria China Clay Mines (P.) Ltd., on which the Tribunal has put reliance. Reference to the facts of that case shows that on behalf of the revenue, it was contended that the expression " loss ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... , the said profit or gain could not have been earned by the assessee and, therefore, it is only after deducting the current year's depreciation that the carried forward loss should be adjusted. In other words, there is no question of any competition on the point of priority as between current year's depreciation, and carried forward loss. This particular principle has been well stated by the Calcutta High Court in Aluminium Corporation of India Ltd. v. Commissioner of Income-tax. The facts of that case were that the assessee-company showed the profit of Rs. 9,56,479 for the accounting year 1948-49. The company was entitled in that year to depreciation allowance amounting to Rs. 12,52,117. There was also an amount of Rs. 27,359 being the loss carried forward from earlier years. The assessee-company claimed that the amount of loss carried forward from the earlier years should be first set off against the profits under proviso (b) to section 24(2) of the Act of 1922 (which is equivalent to section 72(2) of the Act of 1961), before giving effect to the depreciation allowance, it being to the advantage of the assessee-company to have only one sum carried forward as unabsorbed depreciati ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ven to the provisions of section 24(2) where depreciation allowance is, under proviso (b) to section 10(2)(vi), also to be carried forward, and, therefore, the clause would seem to imply that when the stage for giving effect to the provisions of section 24(2) has arrived, it has already been found that there is a depreciation allowance to be carried forward under clause (b) of the proviso to section 10(2)(vi). On the other hand, the language of the proviso suggests that whether or not the surplus amount of the depreciation allowance is to be added to the allowance for the following year, that is to say, to be carried forward, will appear only after the provisions of clause (b) of section 24(2) has been carried out, that is to say, where, on it being found that there is a depreciation allowance also to be carried forward, effect has first been given to section 24(2). The procedure for something to be decided is thus made subject to another procedure which, if carried out, will involve the decision of that very thing, so that after it has been carried out, there will be nothing further to decide. It appears to me, however, that what clause (b) of the proviso to section 10(2)(vi) real ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... said carried forward losses will be first absorbed against the profits and gains of the business before the carried forward part of the depreciation allowance is allowed to be adjusted. Except for this distinction between the carried forward part of the allowance and the current depreciation, there is no other distinction between them. No difficulty in taking this view is created by the language of section 24(2) or by the proviso (b) to that section. " (Underlined by us). This court has also made similar observations in Commissioner of Income-tax v. Girdharlal Harivallabhadas Mills Co. Ltd. There also the question was whether unabsorbed depreciation allowance of earlier years deemed to be part of the depreciation allowance of the current year under section 10(2)(vi) of the Indian Income-tax Act, 1922, can be set off against income under the heads other than business. But while discussing this question, the court has construed the proviso (b) of sub-section (2) of section 24 of the Act of 1922 and has made the following observations, which are very useful for purpose of this reference : " The proviso lays down that effect should first be given to the provisions contained in s ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... of this judgment : " The effect of deeming it to be part of that allowance is that it falls in the following year within clause (vi) and has to be deducted as allowance. If the legislature had not enacted proviso (b) to section 24(2), the result would have been that depreciation allowance would have been deducted first out of the profits and gains in preference to any losses which might have been carried forward under section 24, but as the losses can be carried forward only for six years under section 24(2), the assessee would in certain circumstances have in his books losses which he would not be able to set off. It seems to us that the legislature, in view of this, gave a preference to the deduction of losses first. " According to Shri Shah, these observations should be construed as having laid down that whatever allowance comes within the concept of depreciation allowance by virtue of the deeming fiction contemplated by sub-section (2) of section 32, should be deducted only after deducting the carried forward losses. We do not find any justification for construing these observations of the Supreme Court in the manner proposed by Shri Shah. In fact, the question, which has ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... l principles, depreciation should be shown in the accounts and the profit and loss account must reflect the depreciation accounted for in the accounts. In other words, even in Jaipuria China Clay Mines (P.) Ltd.'s case, the Supreme Court has ultimately held that current year's depreciation is always the first charge on the profit earned in the business for the current year. Shri Shah has also put reliance upon one Allahabad High Court decision which supports the contention raised by him in this reference. We should, therefore, deal with this Allahabad decision before disposing of the point under our consideration. This decision is in Mother India Refrigeration Industries (P.) Ltd. v. Commissioner of Income-tax . The question seems to have been directly raised by the parties before the Allahabad High Court in this case. The High Court, after referring to the above observations of the Supreme Court in Jaipuria China Clay Mines (P.) Ltd. has disposed of this point in the following words : " In that passage the Supreme Court recognised the broad principle that in the matter of carry forward, business losses should receive priority over depreciation allowance. Dr. Misra conceded t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ked us to read the provisions of sub-section (2) of section 72 in the light of the provisions contained in sub-section (3) of section 73. Referring to the provisions of sub-section (3) of section 73 he contended that it speaks in general terms of " allowance on account of depreciation " and, therefore, according to him, the carried forward loss in speculation business should, under sub-section (3) of section 73, get priority even over the depreciation for the current year. According to Shri Shah, therefore, the provisions of sub-section (2) of section 72 should be construed in the light of sub-section (3) of section 73. We do not find any substance in this contention, because it is obvious that even the allowance on account of depreciation with regard to the speculation business is to be calculated only in terms of sub-section (2) of section 72 for the simple reason that sub-section (3) of section 73 specifically asks the assessing authority to do so. Therefore, whatever be the construction of sub-section (2) of section 72, would be the construction which would govern even the allowance on account of depreciation with relation to speculation business. In view of what is stated a ..... X X X X Extracts X X X X X X X X Extracts X X X X
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