Expert Advisory Committee
ICAI-Expert Advisory Committee
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Query No. 21

 

Subject:

Disclosure of interest on shortfall in payment of advance tax.1

A. Facts of the Case

 

1. A listed public sector company is engaged in refining crude oil for production of various petroleum products. Crude oil constitutes more than 90% of the total expenditure of the company. About 70% of crude oil is imported. The balance is sourced within India for which prices are based on international prices. More than 90% of the sales are made to oil marketing companies at import parity prices, derived from international prices of these products. Rest of the sales, made directly to customers, is also priced on the basis of international prices.

 

2. Crude oil and petroleum product prices are extremely volatile in the international market and not predictable with any amount of accuracy by refineries. Hence, as per the querist, the company is not in a position to estimate its profits with reasonable accuracy. As per the requirements of the Income-tax Act, 1961, the company is required to estimate the annual taxable income and remit the advance tax instalments on the due dates. Due to the difficulty in estimation of profits, in most of the years, there is short/excess payment of advance tax instalments.

 

3. According to the querist, there have been occasions, during periods of consistent steep increases in international prices, when the oil marketing companies reduced the prices payable to refineries, as they were unable to pass on the full impact of international prices to Indian consumers. The amounts were released upon easing of international prices or when the domestic prices were suitably revised. There are also certain government decisions, which are announced after the year-end, that give rise to additional income for the refineries. Such unpredictable events also result in shortage in payment of income tax for the year.

 

4. According to the querist, as per the existing provisions of the Income- tax Act, 1961, short payment of advance tax instalments invite automatic levy of interest under section 234C. Interest is levied under section 234B when the total advance tax paid is lower than 90% of the assessed tax. Hence, the company is required to provide for income tax on its income along with interest for short payment of tax in its accounts.

 

5. The querist has stated that in February 1994, the Expert Advisory Committee, vide its opinion published on page 48 of the Compendium of Opinions, Volume XIII, had taken the view that interest under section 139(8) and section 215 of the Income-tax Act, 1961, is levied for default/ delay in the payment of tax and hence, such interest and penalties do not form part of the income tax charge and should not be clubbed with the income tax expense. The Committee has further opined that interest in the nature of penalty and penalties levied under section 139(8) and 215 are extraordinary items and should be disclosed as part of the net income of the period during which these are determined, as required by Accounting Standard (AS) 5, ‘Prior Period and Extraordinary Items and Changes in Accounting Policies’ (Issued 1982).

 

6. The querist has requested for re-consideration of the above view, based on the following:

(a) The case which has been discussed in the opinion is in the context of interest leviable under section 139(8) for delay in filing the return of income and section 215 for shortfall in payment of advance tax. Section 215 has been replaced with section 234B. Interest leviable under section 234B/C is mandatory in nature, which has to be paid along with the return of income.

 

(b) The company provides for such interest as part of provision for taxation in the books of account as a regular practice.

(c) The revised Accounting Standard (AS) 5, ‘Net Profit or Loss for the Period, Prior Period Items and Changes in Accounting Policies’ (revised 1997), issued by the Institute of Chartered Accountants of India, defines ‘extra-ordinary items’ as income or expenses that arise from events or transactions that are clearly distinct from the ordinary activities of the enterprise and, therefore, are not expected to recur frequently or regularly. In the present case, as explained above, interest arises on account of events directly related to the ordinary activities of the enterprise.

 

B . Query

 

7. The querist has sought the opinion of the Expert Advisory Committee on the following issues arising from the above:

(a) Whether interest payable under section 234B and section 234C of the Income-tax Act, 1961, should be considered as part of the tax expense; and

 

(b) Whether such interest should be considered as an extraordinary item for the purposes of AS 5 (revised 1997).

C. Points considered by the Committee

 

8. The Committee notes that section 234B and section 234C of the Income-tax Act, 1961, appear under ‘Part F – Interest Chargeable in Certain Cases’ of Chapter XVII – ‘Collection and Recovery of Tax’. The Committee further notes that the sections prescribe payment of interest where advance tax is not paid in accordance with the requirements of the said sections. The Committee thereby concludes that the nature of income-tax is different from that of interest chargeable under these sections even though the levy of interest is automatic. In this context, the Committee notes the definition of the term ‘tax’ as per section 2(43) of the Income- tax Act, 1961, as reproduced below:

 

    "tax" in relation to the assessment year commencing on the 1 day of April, 1965, and any subsequent assessment year means income- tax chargeable under the provisions of this Act, and in relation to any other assessment year income-tax and super-tax chargeable under the provisions of this Act prior to the aforesaid date".

 

9. On the basis of the above, the Committee is of the view that interest chargeable under section 234B and section 234C cannot be considered as ‘income-tax’ within the meaning of the provisions of the Income-tax Act, since the said sections do not deal with computation of income-tax but deal with payment of interest in specified cases.

 

10. The Committee is further of the view that in case the company considers that the payment of interest is probable on the date of the balance sheet and the amount of the interest can be reliably estimated, it should separately make a provision for such interest as per the requirements of Accounting Standard (AS) 29, ‘Provisions, Contingent Liabilities and Contingent Assets’, issued by the Institute of Chartered Accountants of India. Such a provision, however, will not be considered as provision for income-tax for the purpose of presentation in the financial statements of the company.

 

11. The Committee notes the definition of the term ‘extraordinary items’ and the explanation of the said term in paragraphs 9 and 10 of AS 5(revised 1997) as below:

"Extraordinary items are income or expenses that arise from events or transactions that are clearly distinct from the ordinary activities of the enterprise and, therefore, are not expected to recur frequently or regularly."

 

"9. Virtually all items of income and expense included in the determination of net profit or loss for the period arise in the course of the ordinary activities of the enterprise. Therefore, only on rare occasions does an event or transaction give rise to an extraordinary item."

 

"10. Whether an event or transaction is clearly distinct from the ordinary activities of the enterprise is determined by the nature of the event or transaction in relation to the business ordinarily carried on by the enterprise rather than by the frequency with which such events are expected to occur. Therefore, an event or transaction may be extraordinary for one enterprise but not so for another enterprise because of the differences between their respective ordinary activities. For example, losses sustained as a result of an earthquake may qualify as an extraordinary item for many enterprises. However, claims from policyholders arising from an earthquake do not qualify as an extraordinary item for an insurance enterprise that insures against such risks."

12. The Committee is of the view that since the payment of tax in a business arises in the ordinary course of running the business, any interest on shortfall of advance tax payments should be considered in the ordinary course of business. Accordingly, such interest should not be considered as an ‘extraordinary item’.

 

D. Opinion

 

13. On the basis of the above, the Committee is of the following opinion in respect of the issues raised by the querist in paragraph 7 above:

(a) Interest payable under section 234B and section 234C of the Income-tax Act, 1961, should not be considered as a part of the tax expense. This may, however, be separately provided for in accordance with the requirements of AS 29.

 

(b) Interest payable under sections 234B and 234C of the Income- tax Act, 1961 should not be considered as an extraordinary item for the purposes of AS 5 (revised 1997).

1 Opinion finalised by the Committee on 27.12.2004