Direct Tax Alert
Direct Tax Alert
Background
Section 70 of the Income Tax Act, 1961 (IT Act) deals with set-off of loss under the same head of income, i.e., intra-head set-off of losses. Section 70(2) of the IT Act allows to set off Short-term Capital Loss (STCL) against the gains realised in respect of any other capital asset.
However, the option of setting off STCL with Short-term Capital Gains (STCG) particularly when these capital gains are subject to varying tax rates, has been a contentious issue subject to legal disputes.
In this regard, recently, the Mumbai Tax Tribunal1 has held that the STCL can be set off by the taxpayer against the STCG which are taxable at a higher rate.
We, at BDO in India, have summarised the above ruling and have provided our comments on the impact of this decision hereunder.
Facts of the Case
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The taxpayer is a Securities and Exchange Board of India (SEBI) registered Foreign Portfolio Investor (FPI) engaged in investing in the Indian capital markets. The taxpayer, during the year, had earned substantial STCG on the sale of derivatives and loss in the sale of equity shares on which Securities Transaction Taxes (STT) were paid.
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While filing its return of income, the taxpayer claimed the following:
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Set-off STCL against STCG chargeable to tax at a rate of 30%;
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Set-off STCL against STCG chargeable to tax at a rate of 15%;
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Balance STCL carried forward to the subsequent year.
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The tax officer held that the STCG on the sale of derivates was in the nature of speculative gain. Further, the tax officer noted that STCL arising on the sale of equity shares cannot be set off against such gain since STCL and STCG are taxed at different tax rates. Thereby, the tax officer disallowed the claim of set-off referring to the provisions of section 70(2) of the IT Act.
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Aggrieved by the same, the taxpayer approached the Dispute Resolution Panel (DRP) wherein the DRP upheld the contentions of the tax officer and held that STCG/ STCL on derivative transactions were on a different footing than STCG/ STCL on equity shares. Accordingly, an Assessment order basis to the direction of DRP has been passed determining tax liability without setting off STCL on the sale of equity shares taxable at the rate of 15% against STCG on the sale of derivatives taxable at 30%.
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The taxpayer, aggrieved by directions of the DRP, preferred an appeal before the Mumbai Tax Tribunal.
Mumbai Tax Tribunal ruling:
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Placing reliance on coordinate bench ruling2 wherein it is held that merely because two sets of transactions are liable for different rates of tax, it cannot be said that income from these transactions does not arise from similar computations made as computation in both these cases has to be made in similar manner under same provisions of the IT Act. Accordingly, STCL arising from STT-paid transactions can be set off against STCG arising from non-STT transactions;
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With reference to the provisions of section 70 of the IT Act, reliance is placed on the Calcutta High Court ruling3 wherein it was observed from the perusal of section 70 of the IT Act that there is no prohibition that compels the taxpayer to first set off STCG with STT against STCL with STT and then allows set off against STCG without STT. In the absence of any specific mode of set-off, any prohibition, or any specific chronology for set-off prescribed in the IT Act, the taxpayer was entitled to exercise his option with regards to the chronology of set-off which was most beneficial to the taxpayer.
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Accordingly, STCL arising from any asset could be set off against STCG arising from any other asset as per the provisions of section 70(2) of the IT Act irrespective of different rates of tax as may be applicable.
BDO in India Comments
This ruling emphasises the comprehensive applicability of Section 70(2) of the IT Act across different asset classes, irrespective of applicable individual tax rates. The ruling further affirms that the calculation of income after setting off the losses occurs before applying the tax rate. As a result, any differences in tax rates become irrelevant during this process. Consequently, this ruling provides a benefit in exercising its right to select the chronology of set-off which is most beneficial to him in the absence of a specific mode of set-off provided under the provisions of the IT Act.