Wednesday, November 21, 2012

Unabsorbed depreciation of earlier years brings down tax burden on long-term Capital-gains

In the instant case, the assessee’s claim to set off brought forward unabsorbed depreciation against current year's long-term capital gain was rejected by the AO on the basis of following reasoning:

a) Set-off of current year's business loss against the income under the other heads of income does not include unabsorbed depreciation as it was not a part of business loss;

b) Section 32(2) restricts the allowable depreciation of the current year only to the extent of profits and gains of business; and

c) The other reason for rejecting assessee's claim was that the Act treats business loss separately from the depreciation because business loss can be carried forward only for 8 assessment years whereas depreciation can be carried forward for unlimited period.

The AO completed the assessment after disallowing the claim of the assessee for set off of brought forward depreciation. On appeal, the CIT(A) upheld the order of the AO.

On appeal, the Tribunal held in favour as under:

1) As per provisions of sec.32(2), if the current year's depreciation cannot be set off owing to the profits or gains chargeable being less than the allowance, then the allowance or the part of the allowance to which effect has not been given shall be added to the amount of allowance for depreciation for the following previous year. This means that brought forward depreciation merges with the current year's depreciation because of the legal fiction created by provisions of Sec. 32(2) of the Act;

2) However, this fiction has been subjected to the provisions of sections 72(2) and 73(3). Bare reading of sec. 72 suggest that in case of set off of business loss vis-à-vis depreciation, the first preference shall be given to the business loss as per the provisions of section 72(1) for the simple reason that the business loss can be carried forward only up to 8 assessment years whereas the depreciation can be carried over up to unlimited period; and

3) As has been discussed hereinabove, the brought forward unabsorbed depreciation is treated as current years' depreciation because of the legal fiction, therefore, the treatment given to the current year's depreciation is equally applicable to brought forward depreciation and  the same is also allowed to be set off from the long-term capital gains - Suresh Industries (P.) Ltd. v. ACIT [2012] 27 203 (Mumbai - Trib.)