The Hindu Business Line : A fair ruling on block concept

On the basis of the recommendations of the Economic Administration Reforms Commission, and as promised in the long-term fiscal policy statement, special provisions were introduced in the Income-Tax Act for charging capital gains in respect of depreciable assets. The old system required calculation of depreciation for each capital asset separately. This meant elaborate book keeping and the income-tax officer (ITO) had to check the written-down value (WDV) for each asset. < /p>

Rates varied depending on the type of the asset and the intensity of its use. To get rid of all complications under the old system of WDV, a system of allowing depreciation in respect of block of assets was introduced w.e.f. April 1, 1988.

Special provision

Section 2 (11) was inserted in the I-T Act, defining ‘block of assets’ as a group of assets falling within a class of assets with the same percentage of depreciation. Section 50 was also amended by the Finance Act 1986 w.e.f. April 1, 1987, laying down a special provision for computation of capital gains.

This provision overruled the definition of short-term capital asset contained in Section 2(42A). Section 50(2) laid down that where any block of assets ceases to exist as such because of the transfer of all the assets in that block during the previous year, the income received as a result of a transfer (after adjusting for cost of acquisition of the block by way of WDV at the beginning of the previous year) shall be deemed to be capital gains arising from the transfer of short-term capital asset.

Eastman Industries case

Eastman Industries Ltd sold its office premises in Nariman Point, Mumbai, for Rs 2,99,76,295 on June 16, 1997. The ITO took the view that depreciation was allowed on the block of assets at 10 per cent and this had ceased to exist. He brought the entire surplus on sale to tax as short-term capital gains.

He deducted the WDV of the block as on April 1, 1997, from the sale consideration. The capital gain was quantified at Rs 1,67,32,250. The company pointed out that soon after the sale, it had purchased two premises, one, an office premises at Andheri, Mumbai, for Rs 75,52,982 and the other at Delhi for Rs 1,09,96,112. The company pleaded that as on March 31, 1998, the block of assets was available within the meaning of Section 50(2).

The ITO was of the opinion that capital gain arose on June 16, 1997, and on transfer of the office premises at Mumbai on that date, the block of assets ceased to exist.

Delhi HC ruling

The Delhi High Court read Sections 2(11) and 50(2) together and pointed out that the latter came into play only if assets of the same clause ‘ceased to exist’ for the reason that all assets in that block are transferred during the previous year.

In the Eastman Industries case, the asset which was sold and the asset which was bought during the relevant previous year were in the same group and hence the same percentage of depreciation was applicable.

The Revenue’s argument was that, if there is a hiatus between the sale of assets and purchase of another asset, even though temporarily, then, notwithstanding the fact that at the end of the relevant previous year the ‘block of assets’ continues to subsist, capital gains would get attracted in terms of Section 50(2).

According to the Revenue, at no point of time during the course of the previous year can ‘block of assets’ show a nil figure. No sooner it does, according to the Revenue, Section 50(2) will come into play.

The Delhi High Court rejected the arguments of the Revenue. What is required to be seen, said the Delhi High Court, is whether at the end of the previous year, the ‘block of assets’ has ceased to exist. In other words, the question is whether throughout the course of, ‘or’ after the commencement and before the expiration of the previous year, there was an asset forming within the block of assets.

The provision refers to transfer of assets in the block in a defined period and not at any particular point in time. The High Court interpreted the term ‘during the previous year’ and held that the interregnum between the sale of an asset and the acquisition of another in the previous year should not matter. If there are assets forming part of the block as on March 31 of previous year, there can be no question of applying Section 50(2).

This is the first major case decided by any High Court on the interpretation of Section 50(2) of the Act. The Delhi Ruling (in 219 CTR 593) will help companies understand the new concept of block of assets. Incidentally, it may be noted that Section 50(2) rules out indexing the cost of assets.

(The author is a former Chief Commissioner of Income-Tax. blfeedback@thehindu.co.in)