Tax payer can convert stock in trade into capital asset
Q: My family has a company in India which has invested in shares of companies. These shares were held as stock-intrade from the time they were purchased by the company. Subsequently, the company decided to hold the shares as capital investments. When they were sold, the profit was shown as capital gains. However, the tax officer has assessed the profit as business income on the ground that the shares were originally held as business assets. Is he justified in doing so? — L.R. Basu, Dubai
A: Under section 45(2) of the Income-tax Act, conversion of a capital asset into stock-in-trade is taken cognizance of and the difference between the market value of the asset on the date of conversion and the indexed cost is treated as capital gain. However, the tax law does not contemplate the converse case of converting stock-in-trade into a capital asset.
The Calcutta High Court has held that such omission in law does not operate as a bar on a tax payer. According to the court, the fundamental principle of law is that a person can do all lawful things unless it is contrary to any law or rule. Therefore, a tax payer would be entitled to convert his stockin-trade into a capital asset. When such asset is sold, the profits would be taxable under the head ‘capital gains’ and not as business income. Hence, your company may appeal against the assessment order and there is a reasonable possibility of succeeding in appeal.
Q: My brothers and I have set up a factory in India for manufacture of leather goods. Our company has taken a loan for purchase of raw materials and other expenses. The interest paid on the loan has been capitalised in the books of account. However, for tax purposes, the interest on the loan has been claimed as a deduction from the taxable income of the company. I am worried that such interest may not be allowed as a deduction by the assessing officer since in the books, the interest has been capitalised and not charged to the profit and loss account. Can you please advise? — S. Ahmed, Sharjah
A: Under section 36(1)(iii) of the Income-tax Act, any interest paid on monies borrowed for the purposes of the business or profession is deductible as revenue business expenditure. If the loan is utilised for purchase of capital assets, the interest on such loan would be treated as part of the actual cost of the plant and machinery and depreciation would be allowed thereon. However, the interest which is eligible to be capitalised is only the amount paid upto the date of the plant and machinery being put to use. Thereafter, the interest would be deductible as revenue expenditure.
Therefore, though your company has capitalised the interest paid on the loan in the books of account and not debited it to the profit and loss account, the interest would still be deductible in computing the taxable business profits of the relevant financial year. The Supreme Court of India has confirmed this view and held that entries in the books of account are not relevant because any interest paid or payable on capital borrowed for the purpose of a business is specifically allowed as a deduction under section 36(1)(iii).
Q: India is part of the World Trade Organisation. Has it implemented steps pertaining to the trade facilitation agreement? If so, what measures have been taken so far? — C.K. Sampath, Doha
A: The trade facilitation agreement (TFA) has been put in place by the Indian government by constituting the National Committee on Trade Facilitation under the chairmanship of the Cabinet Secretary. This committee will facilitate domestic coordination and implementation of the TFA provisions. This committee comprises secretaries of all key departments of the government, such as commerce, shipping, agriculture, etc.
The TFA will promote trade by establishing harmonised rules for expediting the movement, release and clearance of goods crossing borders. For the air transport industry, the TFA has accepted the modes of e-payments and electronic documentation. This will have a salutary impact on import and export procedures and customs formalities. The writer is a practising lawyer specialising in tax and exchange management laws of India. Views expressed are his own and do not reflect the newspaper’s policies.