The Hindu Business Line : Taxability of arrears of rent

In a recent case, the Revenue contended that enhanced rent was taxable in the year to which it was related even though it was received subsequently.

T. C. A. Ramanujam

Every Finance Act brings in amendments galore to the Income-Tax Act. The assessing officers (AOs) face problems in interpretation of these amendments. The foremost of these concerns the nature of the amendment.

Is the amendment prospective or retrospective? Is it procedural or substantive? Does it take effect from a declared date or from the next assessment year? Does it permit reassessment proceedings? Is it merely clarificatory or declaratory of the law? < /p>

The Central Board of Direct Taxes (CBDT) does not always come up with elucidations on these points. Matters are sorted out at the the High Court or the Supreme Court level.

Enhanced rent

In the CIT vs D.M.R.A.W.A Trust (217 CTR 497) case, the trust let out its property to the income-tax (I-T) department at a monthly rent of Rs 9,000 to start with. Protracted correspondence resulted in the upward revision of rent from Rs 9,000 to Rs 35,000 per month, as per the orders of I-T department dated July 6, 1994. The rent was further revised upwards from Rs 35,000 to Rs 60,000 per month w.e.f. January 8, 1991 to February 28, 1996. Subsequently, it was enhanced to Rs 1,60,000 per month.

The I-T department passed upward revision orders on different dates with retrospective effect. The income-tax officer (ITO) took the view that with revision of rent with retrospective effect, in view of Section 23(1)(b) of the I-T Act, the rent became receivable in the relevant financial year, with effect from the date from which it was enhanced and, therefore, it was liable to be taxed at the annual letting value. This resulted in escapement of income.

The trust contested the reopening notices arguing that arrears of rent were neither determined nor accrued/received by the trust during the previous years relevant to the assessment years for which reassessment proceedings were sought to be initiated.

According to the Revenue, the enhanced rent was taxable in the year to which it was related even though it was received subsequently. Section 23(1)(b) talks of ‘actual rent received or receivable by the owner in respect thereof’.

A question that arose related to attempted tax evasion by resorting to legal contrivances. Simultaneously, it was also pointed out that the Revenue also cannot be conceded a right to inflate its demands, under different heads like interest, penalty etc., by resorting to legal contrivances.

This related to the charging of interest for underpayment of advance tax under Section 234B and the initiation of penalty proceedings for concealment along with the reopening notices. It is only by the subsequent event of enhancement of rent, that a right accrued to the trust to receive additional amount of rent for earlier years. These supervening events could not be anticipated at the time of filing of the original return.

Section 25B

It is to take care of cases like these that the Finance Act 2000 introduced Section 25B. This is a special provision for assessing arrears of rent when received. It lays down that where the owner of the property received any amount, by way of arrears of rent from such property, the amount so received, after deducting a sum equal to one-fourth of such amount for repairs of, and collection of rent from, the property, shall be deemed to be the income chargeable under the head ‘income from house property’ as the income of the previous year in which such rent is received.

This will be the position even if the assessee is not the owner of that property in the year of receipt of enhanced rent.

Section 25B was enacted w.e.f. April 1, 2001. The question has arisen quite often whether Section 25B can be applied to assessment years prior to April 1, 2001.

The Rajasthan High Court looked at the issue of taxability of the enhanced rent in the particular year to which it related in great detail and ultimately referred to Section 25B.

The High Court ruled thus: “We have no hesitation in finding that the provision of Section 25B is clarificatory in nature and should be given retrospective effect. Adopting this course would sort out innumerable difficulties in the ways of the assessee, and the Revenue as well, and would prevent avoidance of income being subjected to tax and, at the same time, would also avoid avoidable harassment, and penal consequences against the assessee, by adopting the course as adopted by the assessing officer, in the case in hand”.

The Revenue was not entitled to take recourse to reassessment proceedings. The enhanced rent can be taxed only as the income of the relevant previous year in which it was received. The issue has been dogging the courts for several years and conflicting interpretations have been given by various High Courts. The Rajasthan High Court has settled the controversy by laying down that Section 25B is clarificatory in nature.

(The author is a former Chief Commissioner of Income-Tax.)

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