Section 5 of Income Tax Act, 1961

Scope of total income.

5. (1) Subject to the provisions of this Act, the total income of any previous year of a person who
is a resident
includes all income from whatever source derived which—
(a) is received or is deemed to be received in India in such year by or on behalf of such person ;
or
(b) accrues or arises or is deemed to accrue or arise to him in India during such year ; or
(c) accrues or arises to him outside India during such year :
Provided that, in the case of a person not ordinarily resident in India within the meaning of sub-
section (6) of
section 6, the income which accrues or arises to him outside India shall not be so included unless
it is derived
from a business controlled in or a profession set up in India.
(2) Subject to the provisions of this Act, the total income of any previous year of a person who is
a non-resident
includes all income from whatever source derived which—
(a) is received or is deemed to be received in India in such year by or on behalf of such person ;
or
(b) accrues or arises or is deemed to accrue or arise to him in India during such year.
Explanation 1.—Income accruing or arising outside India shall not be deemed to be received in
India within the
meaning of this section by reason only of the fact that it is taken into account in a balance sheet
prepared in
India.
Explanation 2.—For the removal of doubts, it is hereby declared that income which has been
included in the
total income of a person on the basis that it has accrued or arisen or is deemed to have accrued or
arisen to him
shall not again be so included on the basis that it is received or deemed to be received by him in
India.

basic categorization of receipts

The Income Tax Act has not discussed the concept of capital and revenue therefore we have to depend
upon the accounting principles and judicial pronouncements.

What Are Capital Receipts?

Capital receipts are payments received by a company that are not income in nature and
enhance the company's overall capital. These are funds generated by a company's non-
operating operations and appear on the balance sheet rather than the income statement.
They are non-recurring, meaning they do not occur regularly. They end up increasing a
company's obligations or decreasing its assets. These types of receipts have no impact on an
organization's total profit or loss.
Capital receipts are of long term nature

Capital Receipts Examples

 Amount received from the sale of fixed assets.
 Amount received from Shareholders holders
 Borrowings include loans, insurance claims, etc.:- These loans create liability for the
company. These loans are non-recurring in nature.

What are Revenue Receipts?

Revenue receipts are funds a company receives due to its primary business operations. It leads
to an increase in the company's total revenue. Because a company's operating activities create
these funds, they are recorded in the trade and profit and loss account rather than the balance
sheet. They are recurrent and can be seen frequently and used for profit distribution.
Revenue receipts are of short term nature

Revenue Receipts Examples

Some instances of revenue receipts in an organisation are:
 Money received for services provided to customers
 Rent received
 Discounts received from suppliers, vendors, or creditors
 Interest earned
 Commission received
 Revenue earned by the sale of scrap material or waste, etc.

HOW TO DETERMINE THE RESIDENTIAL STATUS OF A HUF FOR THE PURPOSE OF

THE INCOME-TAX LAW?

To determine the residential status of a HUF, the first step is to ascertain whether the HUF is
resident or a non-resident.
If the HUF turns to be a resident, then the next step is to ascertain whether it is resident and
ordinarily resident or is resident but not ordinarily resident.
Step 1: Determining whether resident or non-resident
For the purpose of Income-tax Law, a HUF will be treated as resident in India, if the control
and management of the affairs of the HUF is located (partly or wholly) in India.
Step 2: Determining whether resident and ordinarily resident or resident but not
ordinarily resident
A resident HUF will be treated as resident and ordinarily resident in India during the year if
its manager (i.e. karta or manager) satisfies both the following conditions :
 (1) He is resident in India for at least 2 years out of 10 years immediately preceding the
relevant year.
(2) His stay in India is for 730 days or more during 7 years immediately preceding the
relevant year.
A resident HUF whose manager (i.e. karta or manager) does not satisfy any of the aforesaid
conditions or satisfies only one of the aforesaid conditions will be treated as resident but
not ordinarily resident.
In short, following test will determine the residential status of a HUF :
 If the control and management of the affairs of the HUF is located (partly or wholly) in India
and the manager (i.e. karta or manager) satisfies both the conditions specified at step 2,
then the HUF will become resident and ordinarily resident in India.

 If the control and management of the affairs of the HUF is located (partly or wholly) in India
and the manager (i.e. karta or manager) satisfies none or only one condition specified at
step 2, then the
 HUF will become resident but not ordinarily resident in India.

 If the control and management of the affairs of the HUF is located wholly outside India, then
the HUF will become non-resident.

HOW TO DETERMINE THE RESIDENTIAL STATUS OF A COMPANY?

(3) A company is said to be a resident in India in any previous year, if—

(i) it is an Indian company; or
(ii) its place of effective management, in that year, is in India.
Explanation.—For the purposes of this clause "place of effective management" means a place
where key management and commercial decisions that are necessary for the conduct of business of
an entity as a whole are, in substance made.

With effect from Assessment Year 2017-18, a company is said to be resident in India in any
previous year, if:
(i) it is an Indian company; or
(ii) its place of effective management, at any time in that year, is in India.
For this purpose, the “place of effective management” means a place where key
management and commercial decisions that are necessary for the conduct of the business
of an entity as a whole are, in substance made.
The concept of POEM is effective from Assessment Year 2017-18. The CBDT has issued the
final guidelines for determination of POEM of a foreign company.
The final guidelines on POEM contain some unique features. One of the unique features is
test of Active Business Outside India (ABOI).
The guidelines prescribe that a company shall be said to engaged in 'active business outside
India' if passive income is not more than 50% of its total income.
Further, there are certain additional cumulative conditions to be satisfied regarding location
of total assets, employees and payroll expenses.
The place of effective management in case of a company engaged in active business
outside India shall be presumed to be outside India if the majority meetings of the board of
directors of the company are held outside India.
In cases of companies other than those that are engaged in active business outside India,
the determination of POEM would be a two stage process, namely:—
1. First stage would be identification or ascertaining the person or persons who actually
make the key management and commercial decision for conduct of the company's
business as a whole.
2. Second stage would be determination of place where these decisions are in fact
being made.
However, it has been provided that the POEM guidelines shall not apply to a company
having turnover or gross receipts of INR 50 crores or less in a financial year vide CIRCULAR
NO.8, DATED 23-2-2017.

Constitutional provisions relating to Taxation

Article 265 of the Constitution of India says that "No tax shall be levied or collected except by authority
of law".

Distribution of powers of taxation

List 1 in the 7th schedule to the constitution has the powers of the Central Government listed in Entries
82-92B.

List 2 in the schedule has the powers of the State Government listed in Entries 45-63.

Entry 97 of List 1 in the 7th Schedule contains residuary powers of taxation belonging only to the centre.

Article 366(28) “'taxation' includes the imposition of any tax or impost, whether general or local or
special, and 'tax' shall be construed accordingly”.

Article 366(12A) of the Constitution as amended by 101st Constitutional Amendment Act, 2016 defines
the Goods and Services Tax (GST) as a 'tax on supply of goods or services or both, except taxes on the
supply of alcoholic liquor for human consumption'.
Article 246A of the Constitution

246A. Special provision with respect to goods and services tax.—(1) Notwithstanding anything contained in articles 246 and

254, Parliament, and, subject to clause (2), the Legislature of every State, have power to make laws with respect to goods

and services tax imposed by the Union or by such State.

(2) Parliament has exclusive power to make laws with respect to goods and services tax where
the supply of goods, or of services, or both takes place in the course of inter-State trade or
commerce.

Explanation.—The provisions of this article, shall, in respect of goods and services tax referred to in clause (5) of article

279A, take effect from the date recommended by the Goods and Services Tax Council.]

Article 269A of the Constitution

269A. Levy and collection of goods and services tax in course of inter-State trade or commerce.— (1) Goods and services

tax on supplies in the course of inter-State trade or commerce shall be levied and collected by the Government of India and

such tax shall be apportioned between the Union and the States in the manner as may be provided by Parliament by law on

the recommendations of the Goods and Services Tax Council.

Explanation.—For the purposes of this clause, supply of goods, or of services, or both in the course of import into the

territory of India shall be deemed to be supply of goods, or of services, or both in the course of inter-State trade or

commerce.

What is Clubbing of Income in Income

Tax Act?
When the income of another person (mostly family members) is included in your income and
taxed in your hands,
then such a situation is called Clubbing of Income.

The income clubbed in your income is called deemed income.

The provisions of clubbing of income are applicable only to individuals and no other type of
assessee like firm/HUF/Company etc.

Let’s say

you have a total income of Rs 8,00,000.

It comprises a salary income worth Rs 6,00,000 & rental income of Rs 2,00,000.

With an aim to fall below the basic exemption limit, you transfer rental income without
transferring the house ownership in your wife’s name.

Now, while calculating tax, your taxable income shall be taken at Rs 8,00,000, not Rs 6,00,000.

This is because of the income tax provisions on Clubbing of Income Section 60.

Income Tax Sections on Clubbing of Income

Income Tax Provision Transaction Covered

Section 60 Transfer of Income without Transfer of Asset

Section 61 Revocable Transfer of Asset

Section 64(1)(ii),64(1)(iv),64(1) Clubbing of Income of Spouse

(vii)
 Section 64(1)(vi),64(1)(viii) Clubbing of Income in case of Son’s Wife

Section 64(1A) Clubbing of Income of Minor Child [Less than 18 years] and an exemp
allowed to the parent.

Section 64(2) Clubbing of Income & HUF

 The clubbing provisions will not apply on the income derived from the
clubbed income.

For example:

If a bond is transferred for Rs. 5 lakh to the spouse or daughter-in-law without

adequate consideration and

interest of Rs. 20,000 on such bond is clubbed in the hands of the transferor.

However, if the spouse or daughter-in-law further earns any income from such
interest of Rs. 20,000,

no clubbing provisions shall apply on such income.

 The clubbing provisions will apply for indirect transfers or cross transfers
as well.

For example:
If Mr K gifts a sum of Rs. 8,000 to Mrs. N and

Mr. N gifts a sum of Rs. 15,000 to Mrs. K.

Say both the gifts are without any consideration.

Then the overlapping amount of Rs. 8,000 will be clubbed in the hands of the
transferors.

1.1 Income-tax Act, 1961

The levy of income-tax in India is governed by the Income-tax Act, 1961 which extends to whole of
India and came into force on 1April, 1962. The Act contains 298 sections and XIV schedules. It
contains provisions for determination of taxable income, tax liability, assessment procedures,
appeals, penalties and prosecutions. These undergo changes every year with additions and deletions
brought by the Annual Finance Act passed by the Parliament.
1.2 Annual Finance Acts
Every year, Finance Bill is introduced by the Finance Minister of the Government of India in the
Parliament’s Budget Session. When the Finance Bill is passed by both the Houses of the Parliament
and gets the assent of the President, it becomes the Finance Act. Amendments are made every year to
the Income-tax Act, 1961 and other tax laws by the Finance Act. Finance Bill also mentions the
Rates of Income tax and other taxes given in various schedules which are attached to it. Therefore,
though Income-tax Act is a settled law, the operative effect is given by the Annual Finance Act.
1.3 Income-tax Rules, 1962
Central Board of Direct Taxes (CBDT) looks after the administration of direct taxes and is
empowered u/s 295 of the Income Tax Act, to make rules for carrying out the purposes of the Act
and thereby it frames various rules from time to time for the proper administration of the Income-tax
Act, 1961. These rules were first framed in 1962 and are thereby collectively called Income-tax
Rules, 1962. It is important to read these rules along with the Income-tax Act, 1961. The power to
make rules under this section shall also include the power to give retrospective effect, but not earlier
than the date of commencement of this Act. However, such retrospective effect shall not be given so
as to prejudicially affect the interests of the assessees.
1.4 Circulars and Notifications
Circulars are issued by the CBDT from time to time to deal with certain specific problems and to
clarify doubts regarding the scope and meaning of the provisions. These circulars are issued for the
guidance of the officers and/or assessees. These circulars are binding on the department and not on
the assessee and therefore the assessee can take advantage of beneficial circulars.
Notifications are issued by the Central Government to give effect to the provisions of the Act. For
example, u/s 10(15)(iv)(h), interest on bonds and debentures are exempt by the Central Government
subject to such conditions through Notifications. The CBDT is also empowered to make and amend
rules for the purposes of the Act by issue of notifications. For example, u/s 35CCD, the CBDT is
empowered to prescribe guidelines for notification of skill development project.

Consider goods manufactured in Maharashtra and sold to the final consumer in Karnataka. Since the
Goods and Service Tax is levied at the point of consumption, the entire tax revenue will go to Karnataka
and not Maharashtra.

Connection with outside agency means A person cannot make income out of oneself

Recurring nature of Income

Recurring Revenue refers to a part of income or revenue that recur again and again constantly in the
future at regular intervals like monthly or yearly and this kind of revenue is relatively stable as it can be
predicted with reasonable confidence.

Accrued income is money that's been earned, but has yet to be received.

Section 37 of Income Tax Act states that any business expenditure, excluding capital expenditure and
the individual’s personal expenses, that is spent or set out solely and entirely for the business’s
operations shall be applicable for deduction. Additionally, it will be applicable while calculating a
business’s taxable income which is payable under the head “profits and gains of business or profession”.

When an employee retires, they can choose to receive a certain percentage of

their pension in advance. This advance payment is termed the commuted
pension

commuted or lump-sum pension payments received by government

employees is exempt from income tax. This means that such payments are
not subject to taxation.
for non-government employees, the pension exemption depends on whether they also receive gratuity:

If a person receives both gratuity and pension, then if 100% of the pension was commuted, 1/3rd of the
pension amount is exempt from tax, while the remaining is taxed as salary.

If a person does not receive gratuity but only a pension, then if 100% of the pension was commuted, half
of the pension amount is exempt from tax.

The uncommuted pension, is periodic pension payment, is fully taxable as

salary.
Set off of losses

Set off of losses means adjusting the losses against the profit or income of that particular year.

Losses that are not set off against income in the same year can be carried forward to the subsequent
years for set off against income of those years.

A set-off could be an intra-head set-off or an inter-head set-off.

Intra-head Set Off

The losses from one source of income can be set off against income from another source under the
same head of income.

For eg: Loss from Business A can be set off against profit from Business B, where Business A is one
source and Business B is another source and the common head of income is “Business”.

Exceptions to an intra-head set off:

Losses from a Speculative business Estimated satta will only be set off against the profit of the
speculative business. One cannot adjust the losses of speculative business with the income from any
other business or profession.

Loss from an activity of owning and maintaining race-horses will be set off only against the profit from
an activity of owning and maintaining race-horses.

Long-term capital loss will only be adjusted towards long-term capital gains. However, a short-term
capital loss can be set off against both long-term capital gains and short-term capital gain.

Losses from a specified business will be set off only against profit of specified businesses. But the losses
from any other businesses or profession can be set off against profits from the specified businesses.

Inter-head Set Off

After the intra-head adjustments, the taxpayers can set off remaining losses against income from other
heads.

Eg. Loss from house property can be set off against salary income.

Given below are few more such instances of an inter-head set off of losses:
Loss from House property can be set off against income under any head

Business loss other than speculative business can be set off against any head of income except income
from salary.

One needs to also note that the following losses can’t be set off against any other head of income:

a. Speculative Business loss

b. Specified business loss

c. Capital Losses

d. Losses from an activity of owning and maintaining race-horses

Carry forward of losses

After making the appropriate and permissible intra-head and inter-head adjustments, there could still be
unadjusted losses.

These unadjusted losses can be carried forward to future years for adjustments against income of these
years.

The rules as regards carry forward differ slightly for different heads of income.

These have been discussed here:

Losses from House Property :

Can be carry forward up to next 8 assessment years from the assessment year in which the loss was
incurred

Can be adjusted only against Income from house property

Can be carried forward even if the return of income for the loss year is belatedly filed.
Losses from Non-speculative Business (Regular Business) Loss

Can be carry forward up to next 8 assessment years from the assessment year in which the loss was
incurred

Can be adjusted only against Income from business or profession

Not necessary to continue the business at the time of set off in future years

Cannot be carried forward if the return is not filed within the original due date.

Speculative Business Loss

Can be carry forward up to next 4 assessment years from the assessment year in which the loss was
incurred

Can be adjusted only against Income from speculative business

Cannot be carried forward if the return is not filed within the original due date.

Not necessary to continue the business at the time of set off in future years

Specified Business Loss under 35AD

No time limit to carry forward the losses from the specified business under 35AD

Not necessary to continue the business at the time of set off in future years

Cannot be carried forward if the return is not filed within the original due date

Can be adjusted only against Income from specified business under 35AD

Capital Losses

Can be carry forward up to next 8 assessment years from the assessment year in which the loss was
incurred

Long-term capital losses can be adjusted only against long-term capital gains.

Short-term capital losses can be set off against long-term capital gains as well as short-term capital gains

Cannot be carried forward if the return is not filed within the original due date
Assessment
After an assessee has filed his details, it goes into processing. The Income Tax Department
analyses all the details that a taxpayer submits. This is Income Tax Assessment. In simpler
words, the examination of the details submitted by a taxpayer (in their income tax return)
is called Income Tax Assessment.
Filing of return of income
Section 139. (1) Every person,—
(a) being a company or a firm; or
(b) being a person other than a company or a firm, if his total income or the total income
of any other person in respect of which he is assessable under this Act during the previous
year exceeded the maximum amount which is not chargeable to income-tax,

shall, on or before the due date, furnish a return of his income or the income of such other
person during the previous year, in the prescribed50 form and verified in the prescribed
manner and setting forth such other particulars as may be prescribed :
Provided that a person referred to in clause (b), who is not required to furnish a return
under this sub-section and residing in such area as may be specified by the Board in this
behalf by notification in the Official Gazette, and who during the previous year incurs an
expenditure of fifty thousand rupees or more towards consumption of electricity or at any
time during the previous year fulfils any one of the following conditions, namely :—
(i) is in occupation of an immovable property exceeding a specified floor area, whether by
way of ownership, tenancy or otherwise, as may be specified by the Board in this behalf; or
(ii) is the owner or the lessee of a motor vehicle other than a two-wheeled motor vehicle,
whether having any detachable side car having extra wheel attached to such two-wheeled
motor vehicle or not; or
(iii) [***]
(iv) has incurred expenditure for himself or any other person on travel to any foreign
country; or
(v) is the holder of a credit card, not being an "add-on" card, issued by any bank or
institution; or
(vi) is a member of a club where entrance fee charged is twenty-five thousand rupees or
more,
shall furnish a return, of his income during any previous year ending before the 1st day of
April, 2005, on or before the due date in the prescribed form and verified in the prescribed
manner and setting forth such other particulars as may be prescribed :

Provided further that the Central Government may, by notification in the Official Gazette,
specify the class or classes of persons to whom the provisions of the first proviso shall not
apply :
Provided also that every company or a firm shall furnish on or before the due date the
return in respect of its income or loss in every previous year :
Provided also that a person, being a resident other than not ordinarily resident in India
within the meaning of clause (6) of section 6, who is not required to furnish a return under
this sub-section and who at any time during the previous year,—
(a) holds, as a beneficial owner or otherwise, any asset (including any financial interest in
any entity) located outside India or has signing authority in any account located outside
India; or
(b) is a beneficiary of any asset (including any financial interest in any entity) located
outside India,
shall furnish, on or before the due date, a return in respect of his income or loss for the
previous year in such form and verified in such manner and setting forth such other
particulars as may be prescribed:
Provided also that nothing contained in the fourth proviso shall apply to an individual,
being a beneficiary of any asset (including any financial interest in any entity) located
outside India where, income, if any, arising from such asset is includible in the income of
the person referred to in clause (a) of that proviso in accordance with the provisions of this
Act:
Provided also that every person, being an individual or a Hindu undivided family or an
association of persons or a body of individuals, whether incorporated or not, or an artificial
juridical person, if his total income or the total income of any other person in respect of
which he is assessable under this Act during the previous year, without giving effect to the
provisions of clause (38) of section 10 or section 10A or section 10B or section 10BA or
section 54 or section 54B or section 54D or section 54EC or section 54F or section 54G or
section 54GA or section 54GB or Chapter VI-A exceeded the maximum amount which is
not chargeable to income-tax, shall, on or before the due date, furnish a return of his
income or the income of such other person during the previous year, in the prescribed form
and verified in the prescribed manner and setting forth such other particulars as may be
prescribed:
Provided also that a person referred to in clause (b), who is not required to furnish a return
under this sub-section, and who during the previous year—
(i) has deposited an amount or aggregate of the amounts exceeding one crore rupees in one
or more current accounts maintained with a banking company or a co-operative bank; or
(ii) has incurred expenditure of an amount or aggregate of the amounts exceeding two lakh
rupees for himself or any other person for travel to a foreign country; or
(iii) has incurred expenditure of an amount or aggregate of the amounts exceeding one lakh
rupees towards consumption of electricity; or
(iv) fulfils such other conditions as may be prescribed51,
shall furnish a return of his income on or before the due date in such form and verified in
such manner and setting forth such other particulars, as may be prescribed.