CBDT issues clarifications regarding unabsorbed depreciation and unutilised MAT credit for companies opting for concessional tax rates

Background

The Government of India recently announced significant reduction in corporate tax rates through The Taxation Laws (Amendment) Ordinance, 2019 (‘Ordinance’). The Ordinance provides for a reduced tax rate of 22% for existing domestic companies and 15% for newly set up manufacturing companies. The taxpayer has the option to opt for lower tax rate or to continue under the existing tax regime and avail existing deductions and set-off of losses.

The Ordinance also provides that Minimum Alternate Tax (MAT) shall not apply to any taxpayer opting to be governed by these lower tax rates. One of the conditions for availing the lower tax rates is that the taxpayer shall not be eligible to set-off brought forward tax losses against its taxable income.

The drafting of the Ordinance left open certain key questions. The CBDT through Circular No. 29/2019 dated 2 October 2019, has sought to clarify the following two questions:

  • Whether taxpayers will be eligible to set-off unabsorbed depreciation against taxable income of FY 2019-20 and subsequent years?
  • What will be the position of unutilised MAT credit since the provisions of MAT no longer apply to taxpayers opting for concessional tax rates

 

Clarification 1:

A company opting for the lower tax rates shall not be eligible to set-off any brought forward business loss on account of additional depreciation

Key Takeaway:

The Clarification provided by the CBDT, with due respect, appears misplaced. Denial of benefit of unabsorbed depreciation will require an amendment in section 32(2) which can be carried out only by approval from the Parliament of India or a Presidential Ordinance and not by the CBDT through issuance of Circular. Therefore, to that extent, the Circular No. 29/2019 may be considered as ultra-vires the powers of CBDT and may not survive judicial review. Please refer the subsequent paragraphs for a discussion on this aspect.

It is pertinent to note that the restriction is only on set-off of unabsorbed additional depreciation. The set-off of normal depreciation should continue unabated

Be that as it may, taxpayers opting to be governed by the Circular will have to carry out active number- crunching to determine the component of unabsorbed additional depreciation comprised in brought forward depreciation

Our reasoning:

  1. The restrictions provided under the newly inserted section 115BAA(2) has three clauses, as under:
  • Clause (i) prohibits claiming specified deductions, including additional
  • Clause (ii) prohibits set-off of brought forward tax losses relating to deductions under Clause (i)
  • Clause (iii) provides for claim of current year depreciation in such manner as may be prescribed

It is a settled position under the Income Tax Act, 1961 (Act) that depreciation is an allowance and not a deduction. Therefore, the restriction under Clause (ii) dealing with losses relating to deductions referred in Clause (i) should not cover additional depreciation.

 

  1. Under section 32(2) of the Act, unabsorbed depreciation is treated as depreciation of the current year and can be carried forward indefinitely to be set-off against taxable income of future years. As such, when the taxpayer off-sets unabsorbed depreciation, technically, the taxpayer claims off-set of the current year depreciation and not of a brought forward loss. Therefore, any restrictions on brought forward losses should not apply to brought forward depreciation

 

  1. It is also an established position that unabsorbed tax losses are different than unabsorbed A case in point is the provisions of section 79 of the Act which deny benefit of brought forward losses to closely held companies in cases of change in control. Courts have held that section 79 would not apply to brought forward unabsorbed depreciation as depreciation is not a loss.
  2. The CBDT can issue Circulars only for administrative and procedural guidance. A Circular cannot amend or restrict the operation of the law. It is pertinent to note that the clarification is provided by the CBDT by way of a Circular and has not been announced through a Supplementary Ordinance.

 

Clarification 2:

A company opting for the lower tax rates shall not be eligible to set-off unutilised MAT credit

Key Takeaway:

Since the provisions of MAT do not apply to taxpayers opting for the lower tax rates, any unutilised MAT credit available with these companies up to 31st March 2019 shall lapse. This could require writing-off of unutilised MAT credit as an expense to the Profit and Loss Account, impacting the Profit after Tax.

This provision, in effect, will make the MAT paid in earlier years a final tax payment. However, since an option has been provided to the taxpayer of not opting for the concessional tax rate and utilise the MAT credit, a constitutional challenge to this clarification may not survive

Summary

The changes made by the Ordinance and this recent clarification present a strong case for the taxpayers and tax advisors to sit together for carrying out a tax review of existing business operations to ascertain whether any tax optimisation avenues exist and what would be the opportune time for the taxpayer to opt for the lower headline tax rate of 22%

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