Section 10A of the Income Tax Act provides for deduction in respect of profits derived from export of articles or things or computer software, when the assessee is registered with the Software Technology Park of India (STPI). Although the said provisions would no longer apply after 1st April, 2011, this article discusses the important aspect of computing the deduction u/s 10A and would be helpful, if the matter is pending in the assessment for any earlier year or before any appellate authorities. The deduction u/s 10A is to be worked out as under:

The question for consideration is- how to compute the profits of the business of the undertaking? It is possible that the undertaking might have incurred losses in the initial years of the business. Whether such losses, including unabsorbed depreciation , is required to be reduced from the profits of the business of the undertaking while computing the deduction u/s 10A or the deduction u/s 10A is to be computed with respect to current profits of the undertaking without setting off the unabsorbed business loss and unabsorbed depreciation of the earlier years? The question assumes significant importance because if the unabsorbed business loss and depreciation are not required to be set off against the business profit of the undertaking, then the undertaking would be eligible for the higher deduction u/s 10A with respect to current year’s profits of the undertaking and the unabsorbed business loss and depreciation would be carried forward to future years for set off against the profits of the business once the benefit of section 10A expires. This is explained by way of an illustration in the adjacent box.

As can be seen there is a huge difference in the computation under two different options. Of course the carry forward of business loss and depreciation would be subject to the provisions of section 32(2) and section 72(2) of the Income Tax Act.

This controversy has been haunting the tax payers since the days of claiming deduction u/s 80HHC of the Income Tax Act. Section 80HHC of the Income Tax Act also provided the deduction of the profits which were derived from the export of articles or things from the gross total income of the assessee. The section was almost similar to the provisions of section 10A, except for claiming deduction u/s 10A the undertaking has to be a registered with Software Technology Parks of India.

One of the earlier decisions on this issue was rendered by the Andhra Pradesh High Court in the case of Gogineni Tobacco Ltd in the year 2002. In the Case the Andhra Pradesh High Court had refused to admit the reference of the tax department against the decision of the Hyderabad Tribunal, in which it held that the deduction u/s 80-HHC was to be allowed before the set off of the unabsorbed business loss and unabsorbed depreciation. Against this decision, the revenue went in the Supreme Court, in which the Supreme Court held that this being a question of law must be decided by the High Court and accordingly sent back the matter to the High Court. Thus, the matter has gone back to the AP High Court and the verdict of the AP High Court is awaited.

Unfortunately, the tax department is considering the direction of the Supreme Court as the decision in favour of them and have been applying the said decision across not only for the purpose of computing the deduction u/s 80 HHC, but also for the purpose of computing the deduction u/s 10A. Thus, the tax department’s view is that for computing the deduction u/s 10A, the unabsorbed business loss and the unabsorbed depreciation of the earlier years have to be reduced from the current year’s profits of the undertaking. However, the Tax department is ignoring one material difference between the provisions of Section 10A and Section 80 HHC and i.e. the positioning of Section 10A and Section 80HHC in the Income Tax Act. Although both the sections provides for deduction of profits derived from the export, section 10A is placed in Chapter III of the Income Tax Act dealing with the “Exemption” provisions, where as Section 80 HHC is placed in Chapter VI-A of the Income Tax Act which deals with “deduction from the gross total income” of an assessee. As per provisions of Section 80A, while computing the gross total income, an assessee is required to reduce the unabsorbed business loss and unabsorbed depreciation. However, while computing the deduction u/s 10A, the deduction is calculated with respect to profits of the undertaking, which obviously would imply the current year’s profit without reducing the unabsorbed business loss and unabsorbed depreciation.

The Tax department’s strong argument was that as per provisions of section 32(2) of the Income Tax Act, unabsorbed depreciation of earlier years gets added to the current year’s depreciation for the purpose of set off. Hence, the effect needs to be given to that before computing the deduction u/s 10A. However, it failed to take into consideration one important aspect of section 32(2) that provisions of section 32(2) are subject to provisions of section 72(2) of the Income Tax Act- which deals with the carry forward and set off of the unabsorbed business loss. As per provisions of Section 72(2), the effect first needs to be given to unabsorbed business loss before giving effect to unabsorbed depreciation u/s 32(2). Hence, even if the unabsorbed depreciation forms part of the current year’s depreciation for the purpose of set off, until the unabsorbed business loss gets fully set off, the effect cannot be given to unabsorbed depreciation and when one is computing the deduction u/s 10A, it is computed with reference to the profits of the business i.e. with reference to section 28 to 44 of the Income Tax Act. Thus, on a conjoint reading of section 32(2), section 72(2) along with section 10A, it would be clear that the deduction u/s 10A has to be computed with respect to the profits of the undertaking without giving effect to unabsorbed business loss and unabsorbed depreciation.

This controversy has now been put to rest by a recent decision of the Karnataka High Court in the case of Yokogawa India Ltd. In a very detailed decision, the Karnataka High court has analysed all the above mentioned provisions and after detailed analysis reached the conclusion in favour of the assessee that unabsorbed business loss and unabsorbed depreciation are not required to be set off before computing the deduction u/s 10A. This decision would provide a substantial relief to the assessee and the assessee would be eligible to claim the benefit of unabsorbed business loss and unabsorbed depreciation post expiry of tax holiday u/s 10A, subject of course to the provisions of Section 72(2) and 32(2).