2018 (2) TMI 1535 - HC - Income Tax

MAT computation - whether lease equalization charges can be deducted while computing book profit - Held that - Capital recovery can be known as is evident on deduction of financing charges from the lease rentals. In sum and substance lease equalization charges is a method of re-calibrating the depreciation claimed by the assessee in a given accounting period. The method employed by the assessee therefore over the full term of the lease period would result in the lease equalization amount being reduced to a naught as the debit and credits in the profit and loss account would square off with each other. Revenue s contention that the amount is unknown to the Act - as held in the decision is a misappreciation of what constitutes a lease equalization charge. Therefore as long as the method of accounting follows some established principles one of which includes offering only Revenue income for tax we cannot find fault with the assessee debiting lease equalization charges in the AYs in issue in its profit and loss account. It represents a true and fair view of the accounts which is a statutory requirement under Section 211(2) of the Companies Act. For these reasons the first question is answered in favour of the assessee and against the Revenue. Whether the provisions for non-performing assets are liable to be adjusted while computing book profit under Section 115JA of the Act? - Held that - The lease equalization charges are not to be treated as adjustments needing to be added back while computing book profits under Section 115JA on account of Explanation 1. This Court is in agreement with that view. Accordingly the second question too is answered in favour of the assessee.

Summary

Issues Involved:
1. Whether the lease equalization charges can be deducted while computing book profit.
2. Whether the provisions for non-performing assets (NPAs) are liable to be adjusted while computing book profit under Section 115JA of the Income Tax Act.

Issue-wise Detailed Analysis:

1. Lease Equalization Charges:
The primary issue was whether lease equalization charges could be deducted while computing book profit. The assessee, engaged in leasing assets, set apart a portion of lease charges to a lease equalization reserve, crediting only the balance to the profit and loss account. The Assessing Officer (AO) added back the lease equalization charge, reasoning that the Income Tax Act does not distinguish between finance and operating leases, and such charges could not be considered an allowable deduction. This decision was upheld by the CIT(A), but the ITAT granted relief, noting that similar claims had been allowed in the past.

The Court referred to its previous judgment in *Commissioner of Income Tax v. Virtual Soft Systems*, which explained that lease equalization charges are adjustments made to balance the depreciation claimed and the capital recovery amount. The method ensures that over the lease period, debits and credits in the profit and loss account would nullify each other, representing a true and fair view of accounts as required under Section 211(2) of the Companies Act. The Court also cited the Karnataka High Court's judgment in *Commissioner of Income Tax v. Weizmann Finance*, supporting this view.

The Revenue argued that the lease equalization charge is an artificial creation and not supported by the Act. However, the Court held that as long as the accounting method adheres to established principles, including offering only revenue income for tax, the assessee's approach is valid. Consequently, the first question was answered in favor of the assessee.

2. Provisions for Non-Performing Assets (NPAs):
The second issue was whether the value of NPAs should be adjusted while computing book profits under Section 115JA. The assessee argued that lease equalization is an adjustment entry, not a provision for diminution in asset value. The Court referred to *Commissioner of Income Tax v. HCL Comnet Systems and Services Ltd.*, which established that provision for diminution of an asset is not provisioning for a liability. This logic was followed by the Madras High Court in *TVS Finance and Services Ltd.*, and the Gujarat High Court in *Principal Commissioner of Income Tax-2 v. Sun Pharmaceutical Industries Ltd.*, which held that lease equalization charges are not reserves or deductions needing adjustment under Section 115JA.

The Court agreed with this view, stating that lease equalization charges are not adjustments requiring addition while computing book profits under Section 115JA. Consequently, the second question was also answered in favor of the assessee.

Conclusion:
The Revenue's appeal was dismissed, with both questions being answered in favor of the assessee.