2006 (12) TMI 508 - AT - Income Tax

Tax liability arising out of the investments in Zero Coupon Bonds - scheme of deemed income - Book profit u/s 115JA - inadequacy of total income computed - difference between book value and acquisition price - HELD THAT - The CBDT by its circular opined that interest on zero coupon bonds is not an interest in strict sense as it encompasses over certain period of time. The circular issued by CBDT are binding upon the authorities working under it. Similar view has been adopted by Hon ble Supreme Court in the case of UCO Bank v. CIT 1999 (5) TMI 3 - SUPREME COURT , in the case of CCE v. Dhiren Chemical Industries 2001 (12) TMI 3 - SUPREME COURT and in the case of Commissioner of Customs v. Indian Oil Corpn. Ltd. 2004 (2) TMI 66 - SUPREME COURT . The entry by way of crediting the profit and loss account in respect of interest on zero coupon bonds is of notional credit and not in respect of interest accruing during the year. The bonds are maturing over long period of time and the entire income by way of difference between acquisition price and redemption price do not accrue to the assessee during the financial year. Thus, though the assessee has credited the income, the same is not strictly in accordance with Part II and Part III of Schedule VI to the Companies Act, 1956. Hon ble Supreme Court in the case of Apollo Tyres Ltd. v. CIT 2002 (5) TMI 5 - SUPREME COURT held that the Assessing Officer has no power to rework the book profit if the profits are computed in accordance with Part II and Part III of Schedule VI to the Companies Act, 1956. In the case of CIT v. Veekaylal Investment Co. (P.) Ltd. 2001 (2) TMI 117 - BOMBAY HIGH COURT held that if the profit is not computed in accordance with Part II and Part III of Schedule VI to the Companies Act, 1956, the Assessing Officer has power to recompute such book profits. Thus, it can be held that if the Assessing Officer can amend the book profit if it is not in accordance with Part II and Part III of Schedule VI to the Companies Act, 1956, likewise, the assessee also can recompute the book profit for the purpose of section 115JA. Since in the present case, the entire income by way of interest on zero coupon bond has not accrued during the year, the same cannot be considered as to disclose the result of working of the company during the financial year as provided under Part II and Part III of Schedule VI to the Companies Act, 1956. We accordingly hold that the notional income by way of interest on zero coupon bonds has to be excluded while computing book profits as per section115JA of the Act. In the result, the appeal is partly allowed.

Summary

Issues:
1. Allocation of expenditure against income exempt and disallowance.
2. Add back of interest on zero coupon bonds for book profit calculation under section 115JA.

Issue 1: Allocation of Expenditure against Income Exempt and Disallowance

The appellant, a nationalized bank, appealed against the order of the CIT(A) regarding the computation of total income under section 115JA of the Income-tax Act, 1961. The Assessing Officer did not exclude the income from interest on zero coupon bonds while computing book profit for tax levy. The appellant contended that income exempt from tax should be appropriately adjusted in arriving at book profit. The CBDT clarified that interest on zero coupon bonds would not be taxable income. The CIT(A) held that although not taxable 'per se,' it cannot be excluded in arriving at book profit. The appellant argued that since the interest on zero coupon bonds was not liable to income tax, it should be excluded from book profit under section 115JA.

Issue 2: Add Back of Interest on Zero Coupon Bonds for Book Profit Calculation under Section 115JA

The appellant maintained that the interest on zero coupon bonds recorded in the profit and loss account was not actual income but a notional entry. The CBDT circular clarified that the difference between purchase and redemption price of zero coupon bonds was not to be treated as interest income. The Tribunal held that since the entire income from interest on zero coupon bonds did not accrue during the year, it should be excluded from book profits under section 115JA. The Tribunal emphasized that the Assessing Officer cannot rework book profit if computed in accordance with the Companies Act and that notional income from zero coupon bonds should be excluded from book profit calculation.

In conclusion, the Tribunal partly allowed the appeal, ruling that the notional income from interest on zero coupon bonds should be excluded while computing book profits under section 115JA. The issue of allocation of expenditure against dividend income was dismissed for lack of necessary approval. The judgment highlighted the importance of adhering to the Companies Act in computing book profits and the binding nature of CBDT circulars in tax assessments.