Direct Tax Alert: 

 

BACKGROUND

Insurance companies are governed by a special tax regime under which profits and gains of insurance business are computed primarily based on financial statements prepared in accordance with the Insurance Act, 1938 and regulations issued by the Insurance Regulatory and Development Authority of India (‘IRDAI’), subject to adjustments as specified in the First Schedule to the Income Tax Act, 1961 (‘Act’).

Under the special tax regime for insurance companies, Rule 5(b)(i) of the First Schedule of the Act provides that no adjustment is required for gains or losses on sale of investments where these are already reflected in the profit and loss account prepared under the insurance regulatory framework. In such cases, profits on sale of investments shall also be excluded while computing total income to the extent eligible for exemption under Section 10(38) of the Act, which provides exemption for long-term capital gains on listed equity shares and units of equity-oriented mutual funds, subject to payment of Securities Transaction Tax (STT’).

In its recent ruling¹, the Chennai Income Tax Appellate Tribunal (‘Tribunal’, ‘ITAT’) has affirmed that profits on sale of investments earned by Insurance Companies shall be eligible for exemption under Section 10(38) of the Act for the relevant Assessment Years (‘AY’).

We, at BDO India, have summarised the above ruling and have provided our comments on the impact of this decision hereunder.

FACTS OF THE CASE

• The taxpayer, a public sector general insurance company, filed its returns for AYs 2014-15 to 2017-18, computing income in line with the special provisions applicable to insurance companies.

• During AY 2014-15, the company earned substantial profits on the sale of investments, which were credited to the profit and loss account prepared as per the applicable insurance regulations.

• The company claimed exemption under Section 10(38) of the Act for the portion of profits arising from eligible long-term investments and offered the remaining profits to tax. The Assessing Officer (‘AO’) examined the claim during scrutiny proceedings and allowed the exemption.

• Subsequently, the Principal Commissioner of Income Tax (‘PCIT’) initiated revisionary proceedings on the grounds that profits on sale of investments should not have been excluded, that income had been impermissibly bifurcated, and that the AO had not carried out adequate enquiry. Similar revisionary orders were passed in subsequent years and were challenged before the Tribunal.

CHENNAI TAX TRIBUNAL’S RULING

The Chennai Tax Tribunal, while holding that profits on sale of investments earned by Insurance Companies are eligible for exemption under Section 10(38) of the Act, made the following key observations:

• The Tribunal held that revisionary proceedings were not justified. It is observed that where investment gains are already credited to the profit and loss account prepared under the insurance regulatory framework, no further adjustment is required. The Tribunal relied on earlier decisions² in the case of other insurance companies, wherein similar claims were upheld.

• It was also noted that the company had not excluded the investment profits from its income computation but had only claimed exemption for the eligible portion. The Tribunal clarified that nothing in the special provisions applicable to insurance companies prohibits availing the exemption otherwise available under the Act, once income is correctly computed.

• On the issue of lack of enquiry by the AO, the Tribunal further noted that the AO had examined the matter in detail and had taken a reasonable view. A different opinion by the revisional authority could not be a ground for revision. Accordingly, the revisionary orders were set aside.

BDO INDIA COMMENTS

This ruling provides important clarity to Insurance Companies on the availability of an exemption in respect of eligible long-term capital gains. It reinforces the principle that the special computation provisions for insurance business do not override exemptions available under the law, unless expressly provided otherwise.