Understanding the Tax Implications of Remission of Trading Liability for Assessees under Presumptive Taxation

Under the presumptive taxation system in India, certain eligible taxpayers are allowed to pay tax on a presumptive basis. This means that the income of the taxpayer is presumed to be a certain percentage of the total turnover, and the taxpayer is required to pay tax on that presumed income. However, in certain situations, the taxpayer may receive a remission of trading liability. In this article, we will discuss the Tax Implications of Remission of Trading Liability for Assessees under Presumptive Taxation in India.

Short Glimpse

Taxation is an essential component of any country’s economic system, and it is crucial for the government to collect sufficient revenue to meet its expenses. One such aspect of taxation is the remission of trading liability for taxpayers under presumptive taxation, which is subject to taxation.

Therefore, it is of utmost importance to have certain understanding of certain terms, such as Trading Liabilities, its Remission and Presumptive Taxation Scheme under Income Tax Act, 1961. So let’s get begin our article.

Meaning of Trading Liability

Trading liability refers to any financial obligation or liability that a trader incurs while carrying out business activities. Under the Income Tax Act, 1961, trading liability is considered as a deductible expense that can be set off against the income generated from trading activities.

Traders can claim deduction for trading liabilities such as business loans, credit card debt, unpaid bills, and other trade-related expenses. However, the deduction is allowed only for liabilities that are incurred during the year and are related to the business activities carried out by the trader.

It is important for traders to maintain proper records and documentation of their trading liabilities in order to claim the deduction under the Income Tax Act. Failure to do so can result in penalties and interest charges by the tax authorities.

Remission of Trading Liability

Remission of Trading Liability under the Income Tax Act, 1961 refers to the forgiveness or cancellation of a liability that arises from a trade or business conducted by a taxpayer. This may happen when the taxpayer is unable to pay the liability due to financial difficulties or when the liability is deemed uncollectible by the tax authorities.

In such cases, the tax authorities may allow for a remission of the liability, which essentially means that the taxpayer is released from the obligation to pay the debt. This remission may be partial or complete depending on the circumstances of the case.

It is important to note that remission of trading liability is a rare and exceptional situation, and is typically granted only in cases where the taxpayer can demonstrate genuine financial hardship or insolvency. In all other cases, taxpayers are expected to fulfill their tax obligations in full and on time.

However, the Finance Act, 2021 has introduced a new provision that imposes tax on the remission of trading liability for taxpayers under the presumptive taxation scheme. This means that taxpayers who opt for presumptive taxation will now be required to pay tax on the difference between the opening and closing stock of goods, even if the closing stock is less than the opening stock.

What is Presumptive Taxation Scheme?

According to the Income Tax Act, 1961 a person running a business or practicing a profession is obliged to keep regular books of accounts and must also have his accounts verified by an auditor. To relieve the small taxpayers from this tedious work, the Income Tax Act has incorporated a scheme of presumptive taxation in Sections 44AD, 44ADA, and 44AE. A person who has adopted the presumptive taxation regime can declare income at the prescribed rate and in return is freed from the tedious work of keeping books and also from auditing the accounts.

For small taxpayers, the Income Tax Act has provided two schemes of presumptive taxation as given below:

• Presumptive taxation scheme under section 44AD.
• Presumptive taxation scheme under section 44ADA.
• Presumptive taxation scheme under section 44AE.

Tax on Remission of Trading Liability for Assessee under Presumptive Taxation in India

First, let us understand what is meant by a remission of trading liability. Essentially, it means that the taxpayer is released from the obligation to pay a certain amount of their trading liability. This can happen in various situations, such as when the debtor is unable to pay the full amount due, or when a court or tribunal orders a reduction in the liability.

Now, when such a remission is granted to a taxpayer who is under the presumptive taxation system, there are certain tax implications that need to be considered. The Income Tax Act, 1961, has provisions that deal with the taxation of remission of trading liability for such taxpayers.

According to section 44AD of the Income Tax Act, when a taxpayer is under the presumptive taxation system, they are not required to maintain detailed books of accounts. However, if a remission of trading liability is received by the taxpayer, they are required to offer such remission for taxation in the year in which it is received. The remission is taxed as business income of the taxpayer.

The amount of tax that is payable on such remission is calculated in the same way as the tax on the presumptive income. For example, if the taxpayer has opted for the 8% presumptive taxation scheme, and the remission is received in the same financial year, then the tax on the remission will also be 8% of the amount received. It is important to note that the tax on the remission is payable even if the taxpayer has not actually received the remission in cash.

For example, if the taxpayer has a debt of Rs. 10 lakhs, and the creditor remits Rs. 2 lakhs of the debt, then the taxpayer is required to pay tax on the entire Rs. 2 lakhs, even if they have not actually received the money.

It is important to note that the tax on remission of trading liability will only be applicable if the taxpayer declares a presumptive income that is lower than the minimum taxable income specified by the Income Tax Act. If the taxpayer declares a presumptive income that is higher than the minimum taxable income, the tax on remission of trading liability will not be applicable.

Trading Liability under the Presumptive Taxation Scheme

The words used in Section 41(1) of the Income Tax Act, 1961 clearly state that such waiver of business liability shall be treated as profits and gains of business or profession and therefore chargeable to income tax as income for the previous year, whether in business or profession in which whether a discount or deduction has been made, whether or not it exists in a given year.

It indicates that such remission of trading liability will be treated as Income of the relevant year and as such is directly taxable as income and cannot form part of total turnover or gross receipts. Thus, there is nothing in Section 41(1) of the Act which is inconsistent with the provisions of Section 44AD, 44ADA, or Section 44AE of the Income Tax Act, 1961.

Section 44AD or Section 44ADA says that the prescribed minimum percentage of profit shall be applied to the total turnover or gross receipts and if any profit or benefit of the business does not come within the total turnover or gross receipts and the said profit or benefit is otherwise taxable under the provisions of the Act, the word “notwithstanding” used in section 44Ad or 44ADA or 44AE cannot provide immunity from taxation in respect of a particular profit or benefit which does not form part of the total turnover or gross income, whether the business continues to exist or not and whether the assessee makes a presumption or not.

Explanation of Tax on remission of Trading Liability

To make the matter clear, let us consider certain possible scenarios:

• Scenario 1: Total Turnover or Gross Income Rs. 2 lakhs. Remission of trading liability Rs. 2 lakhs. The business continues to exist.
• Scenario 2: Total turnover or gross receipts Rs. 40 lakhs, Remission of Trade Liability Rs. 2 Lakhs Business continues to exist.
• Scenario 3: Turnover during the year Rs. ZERO. Remission of trading liability Rs. 2 Lakhs. The business continues to exist.

Let us first look at scene 3. Any layman who has basic knowledge of taxation will say that the entire Rs. 2 lakhs will be directly taxable as business income for the year in which the remission occurs. Now let us come to scene 1 and scene 2 where the assessee seeks presumption either under sections 44Ad or 44ADA as the case may be. A mere change of scene cannot change the manner of taxing the said R. 2 lakhs against the remission of trading liability.

Let us consider one more scenario where there is only total turnover or gross receipts and no disclaimer  turnover of Rs 40 lakhs (cash) covered by 44AD and the assessee declared deemed income of Rs. 3,20,000/- @ 8% of turnover. Now suppose there is a waiver of business liability of Rs. 2 lakhs during the year.

If it is concluded that the profit of the assessee in the changed situation is the same, the same sounds grossly contrary to the legal position. The sections say that actual profit or notional profit, whichever is higher, should be stated. Now in the given case, in the changed situation, the estimated profit is Rs. 3, 20,000/- and the extra profit is Rs. 2 lakhs so the business income of the assessee will be higher i.e. Rs. 5, 20,000/- and not only Rs. 320000/-.

In conclusion, the remission of trading liability cannot form part of the turnover or receipts used under section 44Ad or 44ADA in any form and will be separately taxable as business income and no presumption under sections 44AD or 44ADA can be applied to it or 44AE of the Income Tax Act, 1961.

Final words

The introduction of tax on remission of trading liability for taxpayers under the presumptive taxation scheme will have an impact on small businesses and professionals who opt for this scheme. Taxpayers will need to carefully evaluate the impact of this provision on their tax liability and take appropriate measures to ensure compliance with the tax laws. It is advisable to seek professional advice to understand the implications of this provision and to ensure compliance with the tax laws.

You can also connect with our Experts at Legal Window for professional advice to understand the implication of this provision under Presumptive Taxation in India. Our Experts would be Happy to Help.