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INDEX
  • Profits and Gains of Business or Profession – Income Tax

  • Income from Business or Profession: Definition and Scope

  • Types of Income Under Profits and Gains of Business or Profession

  • Computation of Income from Business or Profession

  • Taxation of Income from Business or Profession

  • Special Provisions for Professionals

  • Other Important Aspects

  • Other Income Classified as Profits and Gains of Business

Income From Business or Profession

Profits and Gains of Business or Profession – Income Tax

“Profits and gains of business or profession” is one of the five heads of income under the Income Tax Act, 1961. These heads of income are used to determine the tax liability of an individual or entity. Business profits fall under the third head, after income from salaries and house property. This category includes all income earned through business or professional activities, and the taxpayer must declare these profits while filing their income tax return.

Income from Business or Profession: Definition and Scope

Under Section 28 of the Income Tax Act, income from business or profession refers to the profits and gains derived from:

  • The income should be related to a business or profession.
  • The taxpayer should have carried on the business or profession during the financial year.
  • The income should be derived from a business or profession carried on for some part of the financial year.
  • The income should relate to the profits or gains earned during that specific financial year.

The term “business” broadly refers to any activity carried out with a view to earning income. Similarly, “profession” includes an occupation requiring specialized knowledge and expertise, for example, doctors, lawyers, and chartered accountants.

Types of Income Under Profits and Gains of Business or Profession

The following types of income are chargeable to tax under the head “Profits and gains of business or profession”:

  1. Profits from any business: This includes income earned from any business that the taxpayer has carried on at any time during the financial year.
  2. Compensation or payments related to business agreements: Payments received in connection with the termination or modification of agreements for managing the affairs of a company, or those related to the modification of terms of agency in India, are taxable.
  3. Income from trade associations: Income derived by a trade or professional association from providing specific services to its members, even if surplus income is not usually taxable for mutual associations.
  4. Export incentives: This includes various benefits received for exporting goods, such as:
    • Profits on sales of import licenses granted under the Imports (Control) Order.
    • Cash assistance for exports.
    • Duty drawbacks of Customs and Central Excise duties.
    • Profits from transferring Duty Entitlement Pass Book (DEPB) schemes or Duty Free Replenishment Certificates (DFRC).
  5. Business benefits and perquisites: Any benefit or perquisite, whether monetary or not, arising from the carrying on of business or profession.
  6. Remuneration to partners: Any interest, salary, bonus, or commission received by a partner from the firm in which they are a partner.
  7. Payments under agreements: Any Payments received for:
    • Not carrying out certain business or professional activities.
    • Not sharing business rights like patents, copyrights, or trademarks.
  8. Keyman insurance policy: Any sum received under a Keyman insurance policy, including bonuses allocated under such policies.
  9. Capital asset disposal: Any Money received from demolishing, destroying, discarding, or transferring a capital asset for which the entire expenditure has already been deducted under Section 35AD.
Computation of Income from Business or Profession

The income from business or profession is computed as follows:

  1. Gross Receipts: The total income from business or profession, including sales, fees, and other receipts, is the first step in the calculation.

  2. Allowable Deductions: To determine the taxable income, a taxpayer can claim various deductions as per Section 30 to Section 37 of the Income Tax Act, such as:

    • Cost of Goods Sold (COGS): This includes the expenses incurred for acquiring goods that are sold during the year.
    • Depreciation: A taxpayer is allowed to claim depreciation on fixed assets used in the business, as per the prescribed rates under Section 32.
    • Rent, Rates, Taxes: Rent paid for business premises, municipal taxes, and other statutory levies are deductible.
    • Interest on Loans: Interest paid on loans used for business purposes is deductible.
    • Salaries and Wages: Payments made to employees for their services are deductible.
    • Office Expenses: Expenses like utilities, travel, office supplies, and advertising that are directly related to the business are deductible.
    • Bad Debts: If a debt has become irrecoverable, it can be written off as a deduction.

  3. Net Profit or Loss: The total deductions are subtracted from the gross receipts, resulting in the net profit or net loss. If the expenses exceed the gross income, the taxpayer incurs a loss, which can be carried forward to set off against future business income (under Section 72).

Taxation of Income from Business or Profession

  1. Assessment of Taxable Income:

    • If the taxpayer is a resident individual or HUF, the income is subject to tax at the applicable income tax slab rates.
    • If the taxpayer is a company, the income from business is taxed at the corporate tax rate.
    • The professionals are taxed similarly to businesses, but specific provisions apply to professionals in some cases.

  2. Presumptive Taxation: The Income Tax Act also provides for a simplified method of taxation for small businesses and professionals under Section 44AD, Section 44ADA, and Section 44AE. These are known as presumptive taxation schemes, where taxpayers can declare a fixed percentage of their gross receipts or turnover as their income, and they are not required to maintain detailed books of accounts.

    • Section 44AD: For businesses with a turnover up to ₹2 crore, 8% of the turnover (or 6% in the case of digital transactions) is considered the profit for taxation.
    • Section 44ADA: This applies to professionals such as doctors, lawyers, and consultants. If the gross receipts do not exceed ₹50 lakh, 50% of the receipts are considered income.
    • Section 44AE: This section applies to businesses engaged in the transportation of goods. A fixed sum per vehicle is deemed to be the income of the taxpayer.

  3. Advance Tax: Taxpayers earning income from business or profession are required to pay advance tax if their tax liability exceeds ₹10,000. Advance tax is paid in installments during the year, and failing to do so attracts interest under Sections 234B and 234C.

Special Provisions for Professionals

  • Section 44AA: This section mandates the maintenance of books of accounts for certain professionals. If a professional’s gross receipts exceed ₹1.5 lakh in any of the past three years, they are required to maintain books of accounts and get them audited.

  • Section 44AB: Professionals whose income exceeds ₹50 lakh or those whose gross receipts exceed ₹1 crore in any given financial year must get their accounts audited under this section.

Other Important Aspects

  1. Business Losses: If the business incurs a loss, the loss can be set off against income from other sources in the same financial year. Additionally, any unadjusted business loss can be carried forward to future years (for up to 8 years) to be set off against future business income.

  2. Amortization of Preliminary Expenses: Expenses incurred during the initial stages of setting up a business can be amortized over a period of five years.

  3. Tax Audit: A taxpayer engaged in business or profession whose turnover exceeds the prescribed limits must get their accounts audited by a qualified Chartered Accountant under Section 44AB.

Other Income Classified as Profits and Gains of Business

In addition to the regular types of income under this head, certain exceptions also apply. These incomes must be classified under “Profits and gains of business or profession” even if the taxpayer did not carry on any business during the previous year. These include:

  • Recovery of previously deducted losses or expenses: If any loss, expenditure, or trading liability was earlier allowed as a deduction, its recovery in subsequent years is taxable under this head.
  • Balancing charge for electricity companies: Certain adjustments in the case of electricity companies.
  • Sale of capital assets used for scientific research: Profits earned from the sale of capital assets used for scientific research.
  • Recovery of bad debts: If bad debts are recovered, they must be classified as business income.
  • Withdrawal from Special Reserve: Amounts withdrawn from a special reserve set aside under the Income Tax Act.
  • Receipt of discontinued business: In case of businesses using the cash system of accounting, income from discontinued business activities must also be considered under this head.
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