"Income" includes — (i) profits and gains; (ii) dividend; (iii) voluntary contributions received by a trust; (iv) perquisites; (v) any special allowance or benefit; (vi) any allowance granted to the assessee either to meet his personal expenses or for the purpose of his office or employment; (vii) gains chargeable under capital gains; (viii) profits and gains of insurance business; (ix) any winnings from lotteries, crossword puzzles, races including horse-races, card games and other games of any sort or from gambling or betting of any form or nature whatsoever.
The definition is INCLUSIVE, not exhaustive. Even if a receipt does not fall within any specific sub-clause, it may still be income if it partakes of the nature of income. Income is a word of the widest amplitude.
Facts: Karthikeyan participated in the All India Highway Motor Rally (a test of skill and endurance over 6,956 km). He won a prize of ₹22,000 from Indian Oil Corporation and the Rally organizers. The ITO included this in his income. The Tribunal and High Court held it was not taxable income as it did not fall under Section 2(24)(ix) (winnings from lotteries/races/games).
Held: The Supreme Court reversed the High Court. The prize money IS income. The definition of income in Section 2(24) is inclusive — even if a receipt does not fall under any specific sub-clause, it may be income. The words "other games of any sort" in Section 2(24)(ix) are of wide amplitude and not limited to gambling only. More importantly, even if the receipt doesn't fit any sub-clause, it can still be income under the general definition — it would be wrong to treat the sub-clauses as exhaustive. Prize money for skill and effort is income.
Principle: The definition of "income" in S. 2(24) is inclusive — sub-clauses are not exhaustive. Casual receipts (like rally prizes) are income. Even winnings from non-gambling skill contests constitute income. The word "income" must be given its widest amplitude.
Diversion by overriding title: Where an obligation exists which diverts income BEFORE it reaches the assessee — the income never becomes the assessee's income at all. It is not taxable in the assessee's hands.
Application of income: Where the income first reaches the assessee (as his own income) and he then applies a part of it to discharge an obligation. The full amount is taxable — the obligation is merely a use of income already received.
The Test (Hidayatullah J. in Sitaldas Tirathdas): "The true test is whether the amount sought to be deducted, in truth, never reached the assessee as his income... Where by the obligation income is diverted before it reaches the assessee, it is deductible; but where the income is required to be applied to discharge an obligation after such income reaches the assessee, the same consequence, in law, does not follow."
Facts: Sitaldas Tirathdas had income from various sources. Under a consent decree of the Bombay High Court, he was required to pay maintenance of ₹1,500/month to his wife and children. No charge was created on his property. He claimed deduction of the maintenance amounts from his total income on the ground that his income was diverted to wife and children (applying Bejoy Singh Dudhuria principle).
Held: The Supreme Court disallowed the deduction. This was a case of APPLICATION of income (not diversion). The income first reached Sitaldas as his own income, and he then used part of it to pay maintenance. There was no overriding charge on the property that diverted income before it reached him. Distinguishing Bejoy Singh Dudhuria (where there was a court-created charge that diverted income at source), the Court held the maintenance was a personal obligation discharged out of received income.
Principle: Sitaldas Test — income diverted BEFORE reaching the assessee (by an overriding charge/title) = deductible. Income first received by the assessee and then APPLIED to discharge an obligation = taxable in full. A maintenance decree without a property charge is application of income, not diversion.
Facts: Kinariwala, a partner with 10% share in a firm, created a trust and assigned 50% of his 10% share (i.e., 5% income from firm) to the trust by a deed of settlement. He claimed this should be assessed in the trust's hands, not his, as it was diverted by overriding title under Section 29(1) of the Indian Partnership Act.
Held: The Supreme Court held that this was NOT diversion by overriding title — it was application of income. Under Section 29(1) of the Partnership Act, an assignee of a partner's share gets a right to receive profits, but does not become a partner and has no right in the management of the firm. The income still flows to Kinariwala from the firm — he merely passes on part of it to the trust in discharge of his settlement obligation. This is application of income. Distinguished from a sub-partnership (where the sub-partnership acquires a superior title before income reaches the partner).
Principle: Assignment of a partner's share to a trust does NOT create diversion by overriding title — income still flows to the partner who then applies it to the trust. This is different from creating a sub-partnership (which does create overriding title). The key is whether income is diverted before or after it reaches the assessee.
| Basis | Diversion by Overriding Title | Application of Income |
|---|---|---|
| When obligation operates | Before income reaches assessee | After income reaches assessee |
| Nature of obligation | Overriding charge on property/income | Personal obligation to pay from income |
| Tax effect | NOT taxable in assessee's hands | Taxable in full in assessee's hands |
| Leading case | Bejoy Singh Dudhuria (PC) | CIT v. Sitaldas Tirathdas (SC) |
| Example | Court-created charge on estate for maintenance | Personal maintenance decree without charge |
| Assessee's role | Merely a collector of another's income | Receives income first, then pays obligation |
Revenue receipts are taxable under income tax. They arise from the regular conduct of the business or the employment — recurring and ordinary in nature.
Capital receipts are NOT ordinarily taxable as income (though capital gains on sale of capital assets are taxable under Head E). A capital receipt is typically a one-time, non-recurring receipt relating to the capital/structure of the business.
Tests to distinguish:
Salami is a lump sum payment made by a tenant/lessee to a landlord at the time of creation or renewal of a lease/tenancy, in addition to the regular rent. It is a one-time payment for obtaining the right to occupy premises.
Tax treatment: The general rule is that salami received by a landlord is a capital receipt (since it is a payment for parting with a capital right — the right to occupy the property for the lease period). It is NOT taxable as income from house property. However, if salami is received in respect of a short-term agreement resembling a business transaction, it may be treated as revenue receipt.
Agricultural income means:
(a) Any rent or revenue derived from land which is used for agricultural purposes AND which is either assessed to land revenue or subject to a local rate assessed and collected by government officers; OR
(b) Any income derived from such land by agriculture; OR
(c) Any income derived from such land by the performance of a process ordinarily employed by the cultivator to render the produce fit for the market; OR
(d) Any income derived from such land by the sale of agricultural produce raised or received as rent-in-kind.
Agricultural income is EXEMPT from income tax. It does not form part of the "total income" for tax purposes. However, it is included for the purpose of determining the rate of tax applicable to non-agricultural income (partial integration method).
Basic operations: Those operations performed on the land itself — tilling the land, sowing seeds, planting saplings, cultivating the soil. These are the foundation of agriculture.
Subsequent operations: Operations performed on the produce of the land after the basic operations — weeding, pruning, harvesting, tending, etc.
The Rule (CIT v. Benoy Kumar Sahas Roy): Both basic and subsequent operations together constitute agriculture. However, if there are NO basic operations on the land at all (e.g., produce of purely spontaneous/wild growth), the income from subsequent operations alone does NOT qualify as agricultural income. The central idea is: expenditure of human skill and labour on the land itself.
Facts: Mrs. Guzdar was a shareholder in two Tea companies (Patrakola and Bishnauth Tea Companies). The companies grew and manufactured tea — 60% of the income was exempt as agricultural income, 40% was taxable as business income. Mrs. Guzdar received dividends from these companies. She claimed 60% of the dividend was also agricultural income and exempt from tax.
Held: The Supreme Court rejected the claim. Dividend income received by a shareholder from a tea company is NOT agricultural income. The definition of agricultural income requires a direct connection between the recipient and the agricultural land. A shareholder has no direct relationship with the land — she has a contractual right to participate in the profits of the company. The company owns the land, not the shareholders. Dividend is income from investment, not from land. The agricultural character does not travel from the company's income to the shareholder's dividend.
Principle: Dividend received from a tea company (whose income is partly agricultural) is NOT agricultural income in the shareholder's hands. Agricultural income requires DIRECT derivation from land — not through a company's intermediary.
Facts: The assessee owned 6,000 acres of forest land with Sal and Piyasal trees of spontaneous growth (about 150 years old, not originally grown by human agency). However, forestry operations were carried out — pruning, weeding, felling, clearing, cutting channels for rainwater, guarding against pests, and occasionally sowing seeds in denuded areas. The assessee derived income from sale of trees. He claimed it was agricultural income.
Held: The Supreme Court formulated comprehensive principles on what constitutes agriculture. The central idea is the expenditure of human skill and labour on the land. The Court held:
Principle: Agriculture requires basic operations (tilling, sowing, planting) on the land. Subsequent operations alone (pruning, weeding spontaneous growth) without basic operations = NOT agricultural income. Products of purely spontaneous growth, without human agency, are not agricultural produce.
Facts: The assessee derived income from betel gardens. He owned land on which betel vines grew. The operations involved preparing the soil, planting vine saplings, providing shade, watering, and tending the vines regularly. The question was whether this constituted agricultural income.
Held: The income was agricultural income. Betel cultivation involves basic agricultural operations (tilling, planting, cultivation) and subsequent operations (tending, watering). The basic operations involve the land itself — the produce is not of spontaneous growth. The income from betel cultivation is agricultural income.
Principle: Betel cultivation involves both basic and subsequent operations. Income from such cultivation is agricultural income exempt under Section 10(1).
Facts: Income from a mango grove where the trees had been planted by the assessee and he regularly attended to their upkeep, irrigation, and cultivation.
Held: Income from the mango grove was agricultural income. Planting and tending mango trees involves basic agricultural operations (planting) and subsequent operations (pruning, manuring, watering, harvesting). The income is exempt under Section 10(1).
Principle: Orchard/grove income (mango, coconut, etc.) where basic planting operations were performed constitutes agricultural income.
Facts: A company engaged in growing and processing of tea also derived income from selling tea. Question of whether income from plantations constituted agricultural income.
Held: Growing tea involves both basic operations (planting, tilling) and subsequent operations (pruning, tending, plucking). Income from cultivation of tea is agricultural income. The subsequent processing (manufacturing tea from leaves) is a business activity — Rule 8 of Income Tax Rules provides that 60% of composite income from growing and manufacturing tea is agricultural income and 40% is business income.
Principle: Tea plantation income involves both agricultural and business components. Under Rule 8: 60% = agricultural income (exempt), 40% = business income (taxable).
An individual is a Resident of India in a previous year if:
If neither condition is satisfied → Non-Resident (NR)
A resident individual is further classified as Resident and Ordinarily Resident (ROR) or Resident but Not Ordinarily Resident (RNOR). An ROR is taxed on global income. An RNOR is taxed on India-sourced income and income received in India. An NR is taxed only on India-sourced income.
| Residential Status | Income Taxable |
|---|---|
| Resident and Ordinarily Resident (ROR) | All income — worldwide income (Indian and foreign) |
| Resident but Not Ordinarily Resident (RNOR) | Indian income + foreign income from business controlled in India |
| Non-Resident (NR) | Only income received or deemed to be received in India, or income accruing or arising (or deemed to accrue or arise) in India |
Facts: The assessee was a non-resident for income tax purposes. He received remittances in India from his business income earned and accumulated abroad. The question was whether foreign income remitted to India was taxable.
Held: The Supreme Court held that a non-resident is taxable on income received in India during the previous year. Remittances from abroad to India constitute receipt of income in India, even if the income was earned abroad. For a non-resident, the taxable point is receipt in India. Foreign income remitted = taxable in India in the year of receipt.
Principle: Non-residents are taxed on income received in India. Foreign income remitted to India = taxable as income received in India in the year of remittance.
The following income is deemed to accrue or arise in India even for non-residents:
Facts: Vodafone International Holdings (Netherlands) acquired 67% stake in Hutchison Essar Ltd. (India) by purchasing shares of CGP Investments (Holdings) Ltd., a Cayman Islands company, from Hutchison Telecommunications International Ltd. (Hong Kong). The entire transaction (share sale) took place offshore between two non-resident companies. But the underlying asset was the controlling stake in an Indian telecom company. The Income Tax Department claimed India had jurisdiction to tax the capital gains under Section 9(1)(i) — income from transfer of a capital asset situated in India.
Held: The Supreme Court (2-1 majority) held that India did NOT have jurisdiction to tax this transaction. The share sale was of shares of a Cayman Islands company, not of shares of an Indian company. The "look-through" approach adopted by the Revenue to pierce through multiple layers of holding companies to reach the underlying Indian asset was not legally permissible under the Income Tax Act as it then stood. The Act's scheme taxes transfer of a capital asset situated in India — the capital asset transferred (CGP shares) was situated in Cayman Islands, not India. The Court applied the "look at" (not "look through") approach — the transaction must be examined as structured, not re-characterized.
Subsequently, the Finance Act 2012 introduced retrospective amendments to Section 9 and related provisions (the "Vodafone amendment") to tax such indirect transfers. This was highly controversial and triggered investor disputes. India later settled by withdrawing the retrospective tax demands.
Principle: Transfer of shares of a foreign company (which holds interests in Indian companies) is NOT a transfer of a capital asset situated in India under Section 9(1)(i) as it stood before 2012 amendments. India cannot "look through" a transaction to its substance where the form is genuine. (Post-2012 amendments have overruled this result prospectively.)
Income is classified under five heads: A (Salaries), C (Income from House Property), D (Profits and Gains of Business or Profession), E (Capital Gains), and F (Income from Other Sources). [Head B — Interest on Securities — was omitted by Finance Act 1988.] The heads are mutually exclusive in principle, but a receipt that clearly falls under one head cannot be treated under another. However, where a head does not apply, "other sources" serves as a residuary head.
Salary is chargeable to tax on the basis of: (i) due basis (even if not received), or (ii) receipt basis (even if not due) — whichever occurs earlier. Advance salary is taxable in the year of receipt.
Section 17(1) — Definition of Salary: Includes wages, annuity, pension, gratuity, fees, commission, perquisites, profits in lieu of salary, advance salary, leave encashment, and any payment in the nature of salary.
Section 17(2) — Perquisites: Benefits provided by employer to employee in addition to salary. Includes rent-free accommodation, motor car, club fees, medical facilities (beyond limits), etc.
Section 17(3) — Profits in Lieu of Salary: Any compensation on termination/modification of employment terms, any payment by employer from unrecognized PF, etc.
Facts: Ram Pershad was a partner and also a salaried employee in a firm. The question was whether his salary from the firm was taxable as "salary" under Head A or as part of his share of profits under "business income" Head D.
Held: The Supreme Court held that a salary paid to a partner by his own firm is NOT taxable under Head A (Salaries) — it is assessable under Head D as profit and gains of business. The relationship of employer-employee is incompatible with the relationship of partners in a firm. A partner cannot be an employee of his own firm — the salary to a partner is merely a mode of division of profit. It is taxable as business income in the partner's hands.
Principle: Salary received by a partner from his own firm = business income (Head D), NOT salary income (Head A). A partner cannot be an employee of his own firm.
Facts: L.W. Russel was an employee of a tea company. On retirement, he received a sum from the company's superannuation fund. The question was whether the payment was "salary" or "profits in lieu of salary."
Held: The Supreme Court examined what constitutes "profits in lieu of salary" under Section 17(3). A payment made in connection with or in consideration of the employment (past or present) is "profit in lieu of salary." Payments from recognized provident/superannuation funds are governed by specific exemption provisions. The Court analysed the character of the payment to determine taxability.
Principle: Payments from superannuation funds and retirement benefits must be examined based on recognition status of the fund and the specific provisions of the Act. "Profits in lieu of salary" covers compensatory or ex-gratia payments linked to employment.
The annual value of property consisting of any buildings or lands appurtenant thereto, of which the assessee is the owner, is chargeable to tax under the head "Income from House Property" — EXCEPT where such property is used by the owner for the purposes of his business or profession.
Essentials: (1) The property must consist of buildings or lands appurtenant thereto; (2) The assessee must be the owner; (3) The property must not be used for assessee's own business.
Annual Value [Section 23]: The sum for which the property might reasonably be expected to be let from year to year (expected rent). The actual rent received is taken if higher. For self-occupied residential property: Annual Value = NIL.
Deductions [Section 24]: (a) Standard deduction of 30% of annual value; (b) Interest on loan for purchase, construction, repair, renewal of the property (up to ₹2 lakh for self-occupied property; unlimited for let-out property).
Deemed Owner [Section 27]: An individual who transfers property to spouse/minor child without adequate consideration, a holder of impartible estate, a member of co-operative housing society/flat owner — deemed to be owner and taxable.
Facts: A shebait (trustee) of a temple held property on behalf of the deity. The question was whether the shebait was the "owner" for purposes of house property income and whether income from the temple property was taxable.
Held: The shebait, as a trustee for the deity, is the "owner" for purposes of the Income Tax Act. The income from the property is assessable in the hands of the shebait as representative assessee. The concept of ownership under the Income Tax Act is broader than strict legal ownership — it includes those who have beneficial interest in or control over the property.
Principle: "Owner" under Section 22 is not limited to legal title — a shebait holding property as trustee for the deity is the "owner" and assessable for income from house property.
Facts: A company developed plots of land and sold them to purchasers. The company also received income from letting out common amenities (roads, gardens, etc.) maintained in the housing colony. The question was under which head this income was assessable — House Property or Business.
Held: The Supreme Court held that income from letting of property should be assessed under "Income from House Property" and NOT under "Business income," unless the letting is the business of the assessee or the letting out is incidental to the main business. The heads of income are mutually exclusive. Where income from property is assessable under "House Property," it cannot be assessed under "Business."
Principle: Heads of income are mutually exclusive. Income from letting of buildings is assessed under "House Property" not "Business" unless the company's primary business is letting or the letting is incidental to another business activity.
Income from business or profession is chargeable to tax under this head. This includes:
Section 36 — Specific deductions allowed include insurance premium, interest on borrowed capital, bonus and commission to employees, bad debts actually written off, contributions to provident/pension fund.
Section 37 — General deduction: Any expenditure (not covered by Sections 30–36, not capital expenditure, not personal expenditure) laid out or expended wholly and exclusively for the purposes of the business/profession is deductible.
Revenue expenditure is deductible under Section 37(1). It is a recurring expense for running the business — does not create an enduring benefit or permanent asset.
Capital expenditure is NOT deductible under Section 37(1). It is an expenditure that creates an enduring asset, advantage, or benefit for the business — it goes to the capital/structure of the business.
Tests to distinguish:
Facts: Empire Jute Co. paid a sum to the Jute Mills Association (a self-regulatory trade body) for "quota rights" — the right to work their looms beyond a prescribed limit under a trade scheme. The amount was paid annually and renewed year to year. The company claimed it as revenue expenditure.
Held: The Supreme Court held it was REVENUE expenditure (deductible). The "enduring benefit" test does not mean the benefit must be eternal — the benefit must be lasting in a business sense. The test is whether the advantage secured is for the capital/structure of the business or for its working/operations. Here, the quota right merely enabled the mills to work their existing looms more extensively — it did not add to the fixed capital or create a new asset. It was part of the day-to-day business operations.
Principle: The enduring benefit test must be applied purposively. An expenditure that facilitates better utilization of existing assets (without creating new ones) is revenue expenditure, even if the benefit lasts for more than one year. The key is whether it is for the profit-earning structure or for earning profits from existing structure.
Facts: A sugar factory paid lump sum fees for a licence to use a new technical process for manufacturing sugar (a new fermentation process). The licence was for a fixed period. The company claimed it as revenue expenditure.
Held: The Supreme Court held it was CAPITAL expenditure. The payment was for acquiring a right (the licence) that gave the company an advantage for a longer term — it was for the capital/structure of the business (the manufacturing process), not for day-to-day operations. A lump sum payment for a licence to use a process for a period (adding to the technical know-how infrastructure of the business) is capital in nature.
Principle: Lump sum payment for a technology licence for a definite period = capital expenditure. It creates an enduring benefit in the capital structure of the business.
Facts: The assessee paid royalty to the state government for mining gypsum. The royalty was paid annually based on the quantity mined. The question was capital or revenue expenditure.
Held: Annual royalty payments for mining operations are REVENUE expenditure. They are recurring payments for the right to conduct mining operations in each period — not a lump sum acquisition of mining rights. Each payment is for the right to mine in that specific year, making it a revenue outgoing for that year's operations.
Principle: Annual royalty payments for use of natural resources = revenue expenditure. Contrast with lump sum payments for perpetual/long-term rights = capital expenditure.
Facts: The General Insurance Corporation (GIC) — a public sector company — made certain payments. The question involved the characterization of expenses for tax purposes in the insurance business.
Held: The Supreme Court examined the principles applicable to insurance companies for computing taxable income. Special provisions apply to insurance companies (Section 44) — their profits are computed as per the annual accounts prepared under the Insurance Act. The computation method for insurance business income differs from the general business rules.
Principle: Profits of insurance business are computed under Section 44 read with the Insurance Act — not under general business income provisions. The computation follows the statutory accounts of the insurance company.
Facts: The question involved the computation of capital gains on sale of agricultural land and whether the compensation received on compulsory acquisition was taxable capital gain.
Held: The Supreme Court examined the provisions relating to capital gains on compulsory acquisition of capital assets. Compensation received on compulsory acquisition of a capital asset is treated as "full value of consideration" for computing capital gains under Section 45(5). However, agricultural land situated in rural areas is excluded from the definition of capital asset — capital gains on such land are not taxable. The Court examined whether the land was "agricultural land in rural area" for purposes of this exemption.
Principle: Agricultural land in rural India (not within specified urban limits) is not a "capital asset" under Section 2(14) — capital gains from its sale are NOT taxable. Compensation on compulsory acquisition of capital assets is taxable as capital gain in the year of receipt (not the year of acquisition).
Income from other sources is a residuary head — it covers income not chargeable under any other specific head. It includes: interest on securities (post-1988), income from letting of machinery, income from family pension, winnings from lotteries, etc.
Key provision under Section 56(2)(x): Gifts received (money or property) by an individual above ₹50,000 from non-relatives without consideration are taxable as income from other sources (with exceptions for marriage, inheritance, etc.).
Facts: The assessee received certain interest income. The question was whether the interest was taxable under "Interest on Securities" or under "Other Sources" and whether certain deductions were permissible.
Held: The Supreme Court held that the income was taxable under the appropriate head and examined the deductions permissible. The key principle established was that under "Other Sources," only expenditure laid out wholly and exclusively for the purpose of earning that income is deductible. Personal or capital expenditures cannot be deducted from income under other sources.
Principle: Deductions under "Other Sources" are limited to expenditure incurred wholly and exclusively to earn that income — personal expenses are not deductible.
The clubbing provisions prevent tax avoidance through transfer of income or assets to family members in lower tax brackets. If a person transfers income to another without transferring the underlying asset, or transfers assets without adequate consideration to certain relatives, the income is "clubbed" back with the transferor's income and taxed in the transferor's hands.
Facts: The assessee made a settlement of property on a trust for the benefit of himself and his family. The question was whether income from trust property was taxable in his hands under the clubbing provisions.
Held: The Supreme Court examined whether the transfer was revocable. A revocable transfer is one where the transferor retains the power to reassume control over the income or assets directly or indirectly. If a transfer is revocable in nature, the income from the transferred property continues to be clubbed with the transferor's income under Section 61.
Principle: Income from a revocable transfer continues to be clubbed with the transferor's income. A transfer is revocable if the transferor retains power to re-assume the property or its income.
Facts: A husband transferred certain assets to his wife for inadequate consideration. Income was earned from the transferred assets. The Revenue sought to club this income with the husband's income under Section 64(1)(iv).
Held: Section 64(1)(iv) operates to club income from assets transferred to spouse without adequate consideration. The "adequate consideration" test is important — if the spouse pays full market value, there is no clubbing. But if the transfer is without consideration or for inadequate consideration, all income from the transferred asset is clubbed with the transferor-spouse's income, not just the proportionate part.
Principle: Transfer of assets to spouse without adequate consideration → all income from transferred assets clubbed with transferor's income under S. 64(1)(iv). The clubbing applies to ALL income from the asset, not proportionately.
Facts: Mrs. Mohini Thapar was the wife of an assessee who was a partner in a firm. She was admitted as a partner in the firm. The question was whether her share of profits should be clubbed with her husband's income under the clubbing provisions.
Held: The Supreme Court held that the clubbing under Section 64(1)(ii) applies when the spouse is admitted to the benefits of partnership on account of the relationship with the assessee-partner, and not for her own skill, qualifications, or expertise. If the spouse has been admitted to the firm for her own specific skills or qualifications, clubbing does not apply. The key question is: Was the spouse admitted because she is the wife/husband of the partner, or because of her own independent qualification/expertise?
Principle: Section 64(1)(ii) clubs spouse's income from a firm where the assessee is a partner ONLY if the spouse was admitted on account of the marital relationship. If the spouse has her own skill/expertise justifying admission, no clubbing.
Facts: An individual threw his separate property into the common HUF stock. Subsequently, there was a partition of the HUF. The question was how the income from the thrown-in property is treated.
Held: Under Section 64(2), when an individual throws his separate property into the common HUF stock (a voluntary transfer to HUF without consideration), and there is a subsequent partition or separation, the income attributable to the thrown-in property is taxable in the individual's hands (clubbed back). The provision prevents the tax benefit of having HUF income taxed at lower rates through such voluntary transfers.
Principle: Section 64(2) — income from property thrown into HUF stock by an individual is taxed in the individual's hands (clubbed), not in the HUF's hands, to prevent tax avoidance through voluntary HUF transfers.
The Assessing Officer shall, to the best of his judgment, determine the total income of the assessee and make an assessment (called "best judgment assessment") in the following situations:
The AO must pass the assessment to the best of his judgment — it must be honest, reasonable, and based on some material/evidence (not a wild guess). The word "best" implies good faith and fair application of mind.
Facts: The assessee failed to file a return under the income tax law. A best judgment assessment was made by the ITO. The question was whether the best judgment assessment was validly made and what standards should govern it.
Held: The Supreme Court held that a best judgment assessment must be made honestly and fairly. While the AO is not bound by any mathematical formula, the assessment must be based on relevant material and good faith. It must not be a wild guess or a punitive measure. The AO must apply his best judgment to determine income — not simply impose a penalty assessment. The taxpayer must be given a reasonable opportunity to be heard before the assessment is made.
Principle: Best judgment assessment must be: (1) honest; (2) based on relevant material; (3) not a wild guess; (4) fair and reasonable; (5) preceded by opportunity to be heard. It is not a penalty but an attempt to determine actual income despite non-cooperation.
If the Assessing Officer has "reason to believe" that income chargeable to tax has escaped assessment, he may assess or reassess such income. The key requirement is: "reason to believe" — not mere suspicion, possibility, or change of opinion. There must be tangible material forming the basis of the belief.
Time limits for reopening:
Notice under Section 148: Before reopening, the AO must issue notice under Section 148 to the assessee.
Facts: The Revenue sought to reopen a completed assessment under Section 147 on the ground that income had escaped assessment. The assessee contended that there was no "reason to believe" as required, only a change of opinion by the AO.
Held: The Supreme Court held that the power to reassess under Section 147 is not a review power. It cannot be exercised merely because the AO forms a different opinion from the one already formed. A "mere change of opinion" by the AO about the taxability of a matter that was already considered during original assessment does NOT constitute "reason to believe" that income escaped assessment. There must be fresh material or information coming to light — not just second thoughts.
Principle: Reassessment under Section 147 requires "reason to believe" — based on fresh tangible material, not a mere change of opinion. If the income was considered during original assessment, reassessment cannot be initiated simply because the AO now thinks differently.
Facts: Reassessment proceedings were initiated against the assessee after a considerable period. The assessee challenged the jurisdiction of the ITO to initiate reassessment, arguing that the conditions for reopening were not satisfied.
Held: The Supreme Court held that the burden is on the Revenue to show the existence of "reason to believe" that income has escaped assessment. The AO's belief must be bona fide and based on facts — mere information or suspicion does not create "reason to believe." The assessee is entitled to challenge the validity of the reassessment notice if the jurisdictional conditions are not met.
Principle: The AO must have a genuine, honest belief (based on material) that income escaped assessment before reassessment can be initiated. The belief must be bona fide — not arbitrary or merely based on information without verification.
Facts: The AO issued a notice under Section 148 for reassessment based on information from a survey of dealers that the assessee was dealing in unaccounted transactions. The assessee challenged the validity of the notice.
Held: The Supreme Court held that for Section 147 to apply, there must be some material available before the AO at the time of issuing the notice that forms the basis of his "reason to believe." The material need not be conclusive proof — it can be a reasonable basis for the belief. However, there must be some nexus between the material available and the belief that income escaped assessment. A fishing expedition or roving inquiry based on rumour is not sufficient.
Principle: "Reason to believe" requires: (1) some tangible material; (2) nexus between material and the belief of income escaping; (3) the belief must be objectively reasonable (though the officer need not conclusively prove the income escaped). Rumours/suspicions are insufficient.
Facts: A reassessment was sought to be initiated against the company based on subsequent audit objections. The company contended that the AO could not reopen merely because the audit party found fault with the original assessment.
Held: The Supreme Court held that an audit objection alone is not sufficient to constitute "reason to believe" for reopening an assessment. However, if after considering the audit objection, the AO independently applies his mind and forms a belief that income has escaped assessment (based on the material in the objection), the reassessment can be validly initiated. The AO must independently satisfy himself — he cannot mechanically follow audit objections.
Principle: Audit objection by itself is NOT "reason to believe." But if the AO independently examines the material raised in the audit objection and forms his own belief that income has escaped, reassessment is valid. The AO must independently apply his mind.
| Section | What It Covers | Key Rule |
|---|---|---|
| 2(1A) | Definition of Agricultural Income | Rent/revenue from agricultural land; income from agriculture; process to make produce marketable |
| 2(7) | Assessee | Person liable to pay tax or subject to assessment proceedings |
| 2(9) | Assessment Year | Year in which income of previous year is assessed |
| 2(14) | Capital Asset | Any property held; excludes stock-in-trade, personal movables, rural agricultural land |
| 2(24) | Income (inclusive definition) | Includes profits, dividends, perquisites, lottery winnings, etc. — not exhaustive |
| 2(47) | Transfer (for capital gains) | Sale, exchange, relinquishment, extinguishment of rights, compulsory acquisition |
| 3 | Previous Year | Financial year (April 1 – March 31) immediately preceding the assessment year |
| 4 | Basis of Charge | Tax charged on total income of the previous year |
| 5 | Scope of Total Income | ROR: worldwide; RNOR: India + controlled foreign; NR: India-sourced only |
| 6 | Residential Status | Individual: 182 days OR 60 days + 365 days in 4 preceding years |
| 9 | Deemed Accrual in India | Business connection, property in India, services in India, Indian company dividend |
| 10(1) | Agricultural Income Exempt | Not included in total income |
| 14 | Five Heads of Income | A (Salary), C (House Property), D (Business/Profession), E (Capital Gains), F (Other Sources) |
| 15–17 | Salaries | Due or receipt basis (whichever earlier); includes perquisites and profits in lieu |
| 22–27 | House Property | Annual value of buildings owned by assessee (not used for own business) |
| 24 | Deductions from House Property | 30% standard deduction + interest on loan (up to ₹2 lakh for self-occupied) |
| 28–44 | Business/Profession | Profits and gains; specific deductions (S. 30–36); general deduction (S. 37) |
| 37(1) | General Business Deduction | Any revenue expenditure wholly/exclusively for business purposes |
| 45–55 | Capital Gains | Capital gain = Full consideration − (Cost of acquisition + Cost of improvement + Transfer expenses) |
| 56–59 | Income from Other Sources | Residuary head — covers income not under any other head |
| 60–64 | Clubbing of Income | Prevents income-splitting with family members to reduce tax |
| 139 | Return of Income | Obligation to file return |
| 144 | Best Judgment Assessment | AO makes honest/reasonable assessment when assessee fails to comply |
| 147 | Income Escaping Assessment | Reassessment where AO has "reason to believe" income escaped |
| 148 | Notice for Reassessment | Notice must be issued before reopening; "reason to believe" required |
| Case | Year | Principle |
|---|---|---|
| CIT v. G.R. Karthikeyan | 1993 | S. 2(24) inclusive — rally prize money = income; casual receipts taxable |
| CIT v. Sitaldas Tirathdas | 1961 | Sitaldas Test: Diversion before receipt = deductible; application after receipt = not deductible |
| CIT v. Sunil J. Kinariwala | 2003 | Assignment of partner's share to trust = application of income (not diversion) |
| Bacha F. Guzdar v. CIT | 1955 | Dividend from tea company = NOT agricultural income; no direct land relationship |
| CIT v. Benoy Kumar Sahas Roy | 1957 | Forest of spontaneous growth = NOT agricultural income; basic operations on land needed |
| V.V.R.N.M. Subbayya Chettiar v. CIT | 1951 | Foreign income remitted to India = taxable as received in India (for NR) |
| Vodafone International v. UOI | 2012 | Indirect transfer of Indian assets through foreign co. = not taxable (pre-2012 law) |
| Ram Pershad v. CIT | 1972 | Partner's salary from firm = Head D (business), not Head A (salary) |
| East India Housing v. CIT | 1961 | Income from letting buildings = Head C (House Property), not Head D (Business) |
| Empire Jute Co. v. CIT | 1980 | Payment for quota rights = revenue expenditure (facilitates existing business operations) |
| L.B. Sugar Factory v. CIT | 1981 | Lump sum technology licence fee = capital expenditure (creates enduring benefit) |
| Bikaner Gypsums v. CIT | 1991 | Annual royalty payments = revenue expenditure |
| Mohini Thapar v. CIT | 1972 | S. 64(1)(ii) clubbing not applicable if spouse admitted for own skill/expertise |
| CIT v. Burlop Dealers | 1971 | Mere change of opinion ≠ "reason to believe" for reassessment |
| ITO v. Lakhmani Mewal Das | 1976 | Reassessment needs tangible material with nexus to belief of income escaping |
| Srikrishna (P.) Ltd. v. ITO | 1996 | Audit objection alone ≠ "reason to believe"; AO must independently apply mind |
| State of Kerala v. C. Velkutty | 1966 | Best judgment assessment: must be honest, fair, based on material, not a wild guess |
Five Heads of Income — S-H-B-C-O: Salary, House Property, Business/Profession, Capital Gains, Other Sources
Sitaldas Test — BRA: Before Reaching = divertible; After Received = application (taxable)
Residential Status — 182/60+365: 182 days in PY OR 60 days in PY + 365 days in preceding 4 years = Resident
Agricultural Income Tests (Benoy Kumar) — BASIC: Basic Agricultural operations must be performed on the Soil Itself for income from Cultivation to be exempt
Reassessment (Section 147) — RTB-NOP: Reason To Believe (required), NOT Opinion change or mere suspicion; fresh tangible material needed with Proximate nexus