Computation of firm’s Business Income

Upto assessment year 1992-93 the Income-tax Act 1961 provided for treatment of two typed of firms: Registered under Income-tax Act as regd. Firm and not registered under income-tax Act as Unregd firm. But with effect from assessment year 1993-94 the Act provides only one type of firms firms assessed as firm u/s 184. All other such entities are to be treated as A.O.P. Hence a firm which is not assessed as firm’s u/s 184 will be called as P.F.A.O.P. and treated alike for assessment purposes.

While calculating the business income of A.O.P., the provisions as given u/s 28 to 44 are applicable.

Section 40 (ba) lays down following rules disallowing payment of interest, salary, bonus, commission or remuneration by whatever name called:

In case an A.O.P. makes payment of any interest, salary, bonus, commission, or remuneration by whatever name called, such payments are fully disallowed.

In case any interest is paid to a member of firm assessed as AOP and some amount of interest is received from such member, only difference is disallowed.

In case an individual is a member (member in representative Capacity) A.O.P. on behalf of or for the benefit of any other person (person so represented)

• Interest paid by firm assessed as AOP to such individual, or by such individual to firm assessed as AOP otherwise than in representative capacity, the above clauses (a) and (b) shall not be applicable.
• Interest paid by a firm assessed as AOP to such individual or by such individual to or firm assessed as AOP in representative capacity classes (a) and (b) shall be applicable.

In case an individual is member of firm assessed as AOP on behalf of another person but not in representative capacity, interest paid to him will not come under the classes (a) and (b) above.

There are some of the incomes which are taxable under the head “Profit & gains of Business or Profession”

• The profit & gains earned by the assesses from the business/profession carried at any time during the previous year.
• If any person had receive/due any compensation or payment managing the whole or substantially the whole of the affairs of an Indian Company, in connection with the termination of his management or the modification of the terms & conditions relating thereto;
• Income derived from performing specific services for its member by trade, profession or any other similar association.
• Any perquisite or benefit arising from business or profession, whether convertible into money or not.
• Any Interest income, Commission, Salary or bonus due or received by any partner from that Company.
• Any amount received under a Key man Insurance Policy including the amount   allocated by way of bonus on such policy.
• Income received from any speculative transaction.
•  Any profit received from the transfer of Duty Entitlement Pass book scheme.
• Any Profit Received on the transfer of the Duty-Free Replenishment Certificate.
• Any profit received on sale of a license granted under the Imports (Control) Order, 1955, made under the Imports and Exports (Control) Act, 1947 (18 of 1947)
• Any amount received or receivable, in cash or in kind under such agreements:

If a person not carrying out any activity in relation to any business.

Or

If a person is not sharing any Know-how, patent, copyright, trade-mark, licence, franchise or any other business or commercial right of similar nature

Method of Accounting

Under Sec.145, income under Business & Profession shall be computed in accordance with the method of accounting regularly followed by the assesses. The two recognized methods are Cash system and Mercantile system of accounting.  

Cash System: In this system,all expenses & income are booked when they receive.

Mercantile System of Accounting : All Income & expenses are booked on accrual basis.

Speculative Business: Speculative business is one which carries speculative transaction. It is consider to be a separate business.

Speculative Transaction: These are those transaction which in which their is a contract for sale/purchase of shares,stock.

Computation of Income:

Deductions not Admissible:

1. Losses due to illegal trade practices.
2. Expenses not related to the business.
3. Expenses related to Capital Assets
4. Loss on sale of shares.
5. Future Anticipated Losses
6. Advance paid for commencement of new business which is not established

Computation of Business Profits:

Business Profit should be calculated through profit & Loss Account.In Profit & Loss Account there are some expenses which are partly allowed or disallowed under Income Tax Act. On the Credit side of Profit & Loss A/c there are some Income which are tax free or not taxable under the head Business/Profession.

Balance as per  P & L A/c (+) Profit

(-) Loss Amount

Add Expenses claimed but not allowed under the Act

1. All Provisions & Reserves (Provision for Bad Debt/Depreciation/Income)
2. All Taxes (Except Income Tax, Wealth Tax etc.) except sales Tax,Excise
3. Duty,& Local Taxes of premises used for business.
4. All Charities & Donations
5. All personal Expenses
6. Any type of Fine / Penalty
7. Speculative Losses
8. All Capital Losses
9. Any Difference in Profit & Loss Account
10. Previous year Expenses
11. Rent paid to self
12. All expenses related to other head of Income
13. Payments made to the partner (in terms of salary,commission or any other way.)
14. All capital expenses except scientific research
15. Loss by theft
16. Expenses on Illegal Business
17. Rent for Residential portion
18. Interest on Income tax, TDS etc

Total of these Items is added to the profit or adjusted from loss

While calculating the Profit/Loss of Professional all receipt are recorded as their Income & irrespective of that all the expenses paid in providing the services,office expenses are deducted from the Income.