STUDY NOTE - 11

SET OFF OR CARRY FORWARD

AND
SET OFF OF LOSSES

This Study Note includes

• Various Provisions under the Income Tax Act relating to set off or carry forward
and set off of losses

INTRODUCTION
If income is one side of the coin, loss is the other side. When a person earns income. he pays tax. However,
when he sustains loss, law affords him to have benefit in the form of reducing the said loss from income
earned during the subsequent years. Thus, tax liability is reduced at a later date, if loss is sustained.
Certain provisions govern the process of carry forward and set off of loss.
LAW RELATING TO IS DISCUSSED IN THE FOLLOWING TOPICS:
1. Set off of Loss in the Same Year
2. Carry forward and Set off of Loss in Subsequent Years
i) Basic Conditions for carry forward of loss.
ii) Conditions applicable to each head
As stated in section 14 of the Act computation of total income is made under certain heads viz.
(i) Salaries (ii) Income from House Property (iii) Profits and gains of Business or Profession (iv)
Capital gains and (v) Income from other sources.
in a case computation results in to a positive figure, it is income. Likewise, if the computation
results into a negative figure, it is ‘Loss”. Therefore, there cannot be loss from the head ‘Salary’.
Loss can occasion from all the remaining heads.

11.1 SET OFF OF LOSS IN THE SAME YEAR

For the purpose of computing total income and charging tax thereon, income from various
sources is classified under the following heads :–
A. Salaries
B. Income from House Property
C. Profits and gains of Business or Profession
D. Capital gains
E. Income from other sources

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 Set Off or Carry Forward and Set Off of Losses

These five heads of income are mutually exclusive. If any income falls under one head, it can-
not be considered under any other head. Income under each head has to be computed as per
provisions under that head. Then, subject to provisions of Set off of Losses (Sec. 70 to Sec. 80)
between the heads of income, the income under various heads has to be added to arrive at a
gross total income. From this gross total income, deductions under chapter VIA are to be al-
lowed to arrive at the total income.

In this part, the provisions relating to set off, carry forward and set off of losses are categorised
as under :-
SECTION 70
Where the net result for any Assessment Year in respect of any source falling under any head of
income is a loss, the assessee shall be entitled to have the amount of such loss set off against his
income from any other source under the same head.

(1) Save as otherwise provided in this Act, where the net result for any assessment year in
respect of any source falling under any head of income, other than “Capital gains”, is a
loss, the assessee shall be entitled to have the amount of such loss set off against his in-
come from any other source under the same head.
(2) Where the result of the computation made for any assessment year under sections 48 to 55
in respect of any short-term capital asset is a loss, the assessee shall be entitled to have the
amount of such loss set off against the income, if any, as arrived at under a similar compu-
tation made for the assessment year in respect of any other capital asset.
(3) Where the result of the computation made for any assessment year under sections 48 to 55
in respect of any capital asset (other than a short-term capital asset) is a loss, the assessee
shall be entitled to have the amount of such loss set off against the income, if any, as
arrived at under a similar computation made for the assessment year in respect of any
other capital asset not being a short-term capital asset.]
Case Laws:
(i) Losses in illegal business must be taken into account - By earning income from an illegal
activity the income does not get tainted so far as exibility to tax is concerned. While com-
puting income from illegal activity in a particular year all losses incurred in earning that
particular income are also taken into account for computation of real profits even in illegal
business - CIT v. Kurji Jinabhai Kotecha 107 ITR 101.
(ii) Loss in one business can be set off against profit from another business - Though the
profits of each distinct business may have to be computed separately, the tax is charge-
able, not on the separate income of each distinct business but on the aggregate of the
profits of all the business carried on by the assessee. It follows from this that where the
assessee carries on several businesses, he is entitled under section 70 to set off of losses in
one business against profits in another - CIT v. P.M. Muthuraman Chettiar 44 ITR 710.

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SECTION 71
Where the net result of the computation under any head of income in respect of any Assess-
ment Year is a loss, the assessee shall be entitled to have such amount of loss set off against his
income assessable for that Assessment Year under any other head of income.

Exceptions to provisions of sections 70 and 71 are as follows :-

(a) Loss from speculation business: “Speculation transaction” means a transaction in which
a contract for the purchase or sale of any commodity including stocks and shares is peri-
odically or ultimately settled otherwise than by actual delivery or transfer of the commod-
ity or scripts. [Sec. 43(5)] Loss from speculative transaction, if it is in the nature of busi-
ness, can be set off only against income of another speculative business.
(b) Loss under the head long term capital gains arising from transfer of long-term capital
assets will be allowed to be set off only against long term capital gains.
Note:
1. Loss can be set off against deemed income.
2. Inter head adjustment is made only when the net income computed under a head is a
loss.
3. The scheme of inter source and inter head adjustment is mandatory.
(c) Loss from owning and maintaining race horses can be set off only against income of that
activity.
(d) No expenditure or allowance is allowed from wining from lotteries, crossword puzzles,
card games etc. similarly, no loss from any lottery, card games, races, etc. is allowed to be
set off from the income of such sources. [Sec. 58(4)]
(e) loss incurred by an assessee from a source, income from which is exempt cannot be set off
against income from a taxable source.

11.2 CARRY FORWARD AND SET OFF OF LOSS IN SUBSEQUENT

YEARS BASIC CONDITIONS FOR CARRY FORWARD OF LOSS.

SECTION 80: LOSS RETURNS.

In order to carry forward loss under section 72, 73, 74 and 74A. The due date is prescribed in
section 139(1). No loss which has not been determined in pursuance of a return filed within the
date in accordance with the provisions of section 139(3) shall be carried forward under the
provisions of section.
The condition for filing of return in accordance with the provisions of sec. 139(3) shall not
apply to loss from House Property carried forward u/s. 71B and unabsorbed depreciation u/s.
32(2).

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 Set Off or Carry Forward and Set Off of Losses

Brought forward loss of earlier assessment Year in accordance with Ss. 72, 73, 74, 74A can be set
off against the income of that Assessment Year and can be carried forward further, even if the
return is not filed within the due date specified in section 139(1) of the Act.

CBDT has issued circular vide No. 8 of 2001 dated 16.5.2001 clarifying that the power has been
delegated to Commissioner to condone delay in filing return and carry forward losses in cases
where the claim for loss does not exceed Rs. 10,000 for each Assessment Year and to Chief
Commissioner/Director General upto Rs. 1 lakh and beyond such limit CBDT will exercise the
power.

Case Law:

(i) Loss determined in return filed under section 139(4) can also be determined and carried
forward - Sub-section (4) of section 139 has to be read as a proviso to sub-section (1), so
that a return filed under sub-section (4) can be treated as a return under sub-section (1).
Consequently, the loss determined is to be allowed to be carried forward in terms of sub-
section (3) of section 139. This apart, even section 80 which provides for the submission of
return of loss contemplates the determination of the loss in pursuance of a return filed
under section 139 and not under sub-section (1) or (2) of section 139. Therefore, it can be
safely inferred that the return contemplated under section 80 includes a return filed under
sub-section (4) of section 139 - CIT v. B.V.R. Glucose Products Ltd. 250 ITR 512.

CONDITIONS APPLICABLE TO EACH HEAD

71B.Carry forward and set off of loss from house property

Where for any assessment year the net result of computation under the head “Income from
house property” is a loss to the assessee and such loss cannot be or is not wholly set off against
income from any other head of income in accordance with the provisions of section 71 so much
of the loss as has not been so set-off or where he has no income under any other head, the
whole loss shall, subject to the other provisions of this Chapter, be carried forward to the fol-
lowing assessment year and—
(i) be set off against the income from house property assessable for that assessment year; and
(ii) the loss, if any, which has not been set off wholly, the amount of loss not so set off, shall be
carried forward to the following assessment year, not being more than eight assessment
years immediately succeeding the assessment year for which the loss was first computed.

Case Law:

(i) Profit and loss must be under different heads - A set off under section 71 can be claimed
only when the loss arises under one head and the profit against which it is sought to be set
off arises under a different head - Anglo-French Textile Co. Ltd. v. CIT 23 ITR 82.

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Sec 72AA: Carry forward and set –off accumulated loss in scheme of amalgamation of bank-
ing company

Where there has been an amalgamation of

(a) a company owning an industrial undertaking or a ship or a hotel with another company;
or
(b) a banking company referred to in clause (c) of section 5 of the Banking Regulation Act,
1949 (10 of 1949) with a specified bank; or
(c) one or more public sector company or companies engaged in the business of operation of
aircraft with one or more public sector company or companies engaged in similar busi-
ness.

accumulated loss and the unabsorbed depreciation of such company shall be deemed to be the
loss of such banking institution for the previous year in which the scheme of amalgamation
was brought into force.

Provision relating to carry forward and set- off of accumulated loss and unabsorbed deprecia-
tion allowance in a scheme of amalgamation of banking company in certain cases [Section 72
AA]

Not withstanding anything contained in section 72(2)(1B)(i)to (iii) where there has been an
amalgamation of a banking company with any other banking institution under a scheme sanc-
tioned and brought into force by the Central Government under sec 45(7)of Banking Regula-
tion Act , 1949 the accumulated loss and the unabsorbed depreciation of such banking com-
pany shall be deemed to be the loss or , as the case may be, allowance for depreciation of such
banking institution for the previous year in which the scheme of amalgamation was brought
into force and other provision of this Act relating to set- off and carry forward of loss and
allowance for depreciation shall apply accordingly.

For the purposes of this section :

(i) “Accumulated loss” means so much of the loss of the amalgamating banking company ,
under the head “Profits and gains business” (not being a loss sustained in a speculation
business) which such amalgamating banking company, would have been entitled to carry
forward and set-off under the provision of section 72 if the amalgamation had not taken
place;
(ii) “banking company” shall have the same meaning assigned to it in sub-section (15) of
section 45(15) of the Banking Regulation Act,1949.
(iii) “ banking institution” shall have the same meaning assigned to it in sub-section (15) of sec
45(15) of the Banking Regulation Act, 1949.
(iv) “unabsorbed depreciation” means so much of the allowance for depreciation of the amal-

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 Set Off or Carry Forward and Set Off of Losses

gamating banking company which remains to be allowed and which would have been
allowed to such banking company if amalgamation had not taken place.

Provisions relating to carry forward and set off of accumulated loss and unabsorbed depreciation
allowance in business reorganisation of co-operative banks [Sec. 72AB]

(1) The assessee, being a successor co-operative bank, shall, in a case where the
amalgamation has taken place during the previous year, be allowed to set off the
accumulated loss and the unabsorbed depreciation, if any, of the predecessor co-operative
bank as if the amalgamation had not taken place, and all the other provisions of this Act
relating to set off and carry forward of loss and allowance for depreciation shall apply
accordingly.

(2) The provisions of this section shall apply if—

(a) the predecessor co-operative bank—
(i) has been engaged in the business of banking for three or more years; and
(ii) has held at least three-fourths of the book value of fixed assets as on the date of the
business reorganisation, continuously for two years prior to the date of business
reorganisation;
(b) the successor co-operative bank—
(i) holds at least three-fourths of the book value of fixed assets of the predecessor co-
operative bank acquired through business reorganisation, continuously for a mini-
mum period of five years immediately succeeding the date of business reorganisation;
(ii) continues the business of the predecessor co-operative bank for a minimum period of
five years from the date of business reorganisation; and
(iii) fulfils such other conditions as may be prescribed to ensure the revival of the busi-
ness of the predecessor co-operative bank or to ensure that the business reorganisation
is for genuine business purpose.

(3) The amount of set-off of the accumulated loss and unabsorbed depreciation, if any,
allowable to the assessee being a resulting co-operative bank shall be,—

(i) the accumulated loss or unabsorbed depreciation of the demerged co-operative bank if
the whole of the amount of such loss or unabsorbed depreciation is directly relatable to
the undertakings transferred to the resulting co-operative bank; or

(ii) the amount which bears the same proportion to the accumulated loss or unabsorbed de-
preciation of the demerged co-operative bank as the assets of the undertaking transferred
to the resulting co-operative bank bears to the assets of the demerged co-operative bank if
such accumulated loss or unabsorbed depreciation is not directly relatable to the under-
takings transferred to the resulting co-operative bank.

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(4) The Central Government may, for the purposes of this section, by notification in the Official
Gazette, specify such other conditions as it considers necessary, other than those prescribed
under sub-clause (iii) of clause (b) of sub-section (2), to ensure that the business
reorganisation is for genuine business purposes.
(5) The period commencing from the beginning of the previous year and ending on the date
immediately preceding the date of business reorganisa-tion, and the period commencing
from the date of such business reorganisa-tion and ending with the previous year shall be
deemed to be two different previous years for the purposes of set off and carry forward of
loss and allowance for depreciation.
(6) In a case where the conditions specified in sub-section (2) or notified under sub-section (4)
are not complied with, the set off of accumulated loss or unabsorbed depreciation allowed
in any previous year to the successor co-operative bank shall be deemed to be the income
of the successor co-operative bank chargeable to tax for the year in which the conditions
are not complied with.

SUMMARY

During the year Set off

During the same year set off of loss from any source under any head from some other source
under the same head is allowed. The exception is loss from any source under head ‘Capital
Gain’. In case of capital gain loss from short term capital assets is set off against short term
capital gain and loss from long term capital assets is set off against long term capital gain.
[ Sec.70:]

During the same year set off of loss from any head from some other head is allowed. The
exception is loss from any source under head ‘Capital Gain’, speculation business loss, loss
from the activity of owning and maintaining race horses and loss under the head ‘income
from business cannot be set off against ‘salary’ income.
[Sec. 71]

PROVISIONS RELATING TO CARRY FORWARD OF LOSSES

Section Heads of losses To be set off against No. of years

to be carried
forward

71B Loss from House Income from House Property 8

Property
72 Brought forward Income from Business or Profession (continuity 8
business loss of the business in which loss is sustained is not
required w.e.f. Assessment Year 2000-01)

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 Set Off or Carry Forward and Set Off of Losses

72A(1) Accumulated loss Business income of the amalgamated company 8 years

from unabsorbed provided the following conditions are fulfilled :-of the
expiry year of
depreciation of i) The amalgamated company holds year of
amalgamating continuously for a minimum period of 5 years mation.
company owning from the date of amalgamation at least ¾ th
an industrial of the book value of fixed assets of the
undertaking or amalgamating company acquired in a
a ship or scheme of amalgamation.
telecommunication ii) The business of amalgamating company
services. should be continued for a minimum period of
5 years from the date of amalgamation.
iii) The amalgamated company fulfills the
conditions prescribed under rule 9C to ensure
the revival of the business of amalgamating
company or to ensure the amalgamation is for
genuine business purposes. Failure to fulfill
the above conditions, the set off of loss or
depreciation made in any Previous Year in the
hands of the amalgamated company shall be
deemed to be the income of the amalgamated
company chargeable to tax for the year in
which such conditions are not complied with.

72A(4) Accumulated loss Business income of the resulting company. If

and unabsorbed such loss or unabsorbed depreciation is not
depreciation of a directly relatable to the undertakings
demerged company. transferred to the resulting company, it shall
be apportioned between the demerged
company and the resulting company in the
same proportion in which the assets of the
undertaking have been retained by the
demerged company and transferred to the
resulting company. The Central Govt.
may notify the conditions as it considers
necessary to ensure that the demerger
is for genuine business purposes.

72A(6) Accumulated loss Business income of the successor company. 8 years from
and unabsorbed If the conditions laid down in the expiry of
depreciation of the sections 47(xiii) or 47(xiv) are not complied the year of
firm or the with, the set off of loss or allowance of conversion
proprietary depreciation made in any Previous Year
concern

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73 Speculation business Speculation income 4 years
According to
explanation to S. 73, where
any part of the business of
a company consists in the
purchase and sale of shares
of other companies such
company shall be deemed to
be carrying on a speculation
business to the extent to which
the business consists of the
purchase and sale of such shares.
The above explanation does
not apply to :-
a) A company whose gross total
income consists mainly of income
which is chargeable under the heads
“Income from House Property”,
“capital gains” and “Income from
other sources” and
b) A company the principal business
of which is the business of banking
or money lending.

74 Loss under the head Capital gains 8 years

capital gains. W.e.f.
Assessment Year 2003-04,
long term capital gains
shall be carried forward
separately. Long term capital gains 8 years
Short term capital Capital gains 8 years
gains

74A Loss from the activity Income from owning and

of owning and maintaining race horses.
maintaining race horses.

SPECIAL PROVISIONS

Section 78(1):
Where a change has occurred in the constitution of the firm, the firm shall not be entitled to
carry forward and set off so much of the loss proportionate to the share of a retired or deceased
partner remaining unabsorbed shall not be allowed to be carried forward by the firm. These
restriction shall not apply to unabsorbed depreciation.

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 Set Off or Carry Forward and Set Off of Losses

Change in constitution of the firm takes place :–

(i) If one or more of the partners cease to be partners or one or more new partners are admit-
ted, in such circumstances that one or more of the persons who were partners of the firm
before the change continue as partner or partners after the change (provided the firm is
not dissolved on the death of any of its partners).
(ii) Where all the partners continue with a change in their respective shares or in the shares or
in the shares of some of them.
Section 78(2):
Where any person carrying on any Business or Profession has been succeeded in such capacity
by another person otherwise than by inheritance, then the successor cannot have the loss of
predecessor carried forward and set off against his income.
Case Laws:
The term ‘inheritance’ used in section 78(2) must mean only a transmission of the assets or
liabilities of one person to another by the personal law applicable to them and not in any other
mode of transfer known to law - Hindustan Aeronautics Ltd. v. CIT 149 ITR 795.
Section 79 :
Losses (other than unabsorbed depreciation) in case of closely held company
In case of a company in which public are not substantially interested (defined in sec. 2(18) of
the Act), the unabsorbed business loss relating to any Assessment Year can be carried forward
and set off against the income in a subsequent Assessment Year only (if the shares of the com-
pany carrying not less than 51% of the voting power were beneficially held by the same per-
sons) both on the last day of the Previous Year(s) in which the loss, claimed to be set off and on
the last day of the Previous Year in which loss was incurred.
Exceptions
The provisions stated supra shall not apply if the change in the voting power takes place due to
the following reasons :-
(a) the death of a shareholder; or
b) transfer of shares by way of gifts to any relative of the shareholder making such gift.
c) W.e.f. AY 2000-01, this section shall not apply to any change in the shareholding of an
Indian company which is subsidiary of a foreign company arising as a result of amalgam-
ation or demerger of a foreign company subject to the condition that 51% of the sharehold-
ers of the amalgamating or demerged foreign company continue to remain the sharehold-
ers of the amalgamated or the resulting foreign company.
NOTES:
Unabsorbed business losses can be carried forward and set off against profits from any busi-
ness from A.Y. 2000-01. There is no need to continue the same business in which the loss was
incurred.

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Depreciation can be carried forward and set off against the profits from any business in the
succeeding assessment year up to A.Y. 2001-02. The business in which the loss was incurred
need not be continued in that year.

The effect of depreciation, business loss and investment allowance should be given in the fol-
lowing order:

O Current year’s Depreciation

O Unabsorbed Business loss
O Unabsorbed Depreciation
O Unabsorbed Investment Allowance.

A return of loss is required to be furnished for determining the carry forward of such losses, by
the due date prescribed for different assesses under section 139(1) of the Act. (S. 80).

Summery:

Set-off in the same year:

(i) Loss relating to the speculative business shall be set-off against the profits from
speculative business.
(ii) Long term capital loss can be set-off against long term capital gain only.
(iii) Loss from owing & maintaining of horses can be set-off against the income of that activity.
(iv) Business loss can not be set-off against the income form salary.
(v) Loss from house property can be set-off against any head of income

Carry forward & set-off

(i) No loss can be carried forward under section 72, 73, 74 & 74A if the return relating to such
loss is not filled before due date.
(ii) Loss from house property can be carried forward & set-off against income from house
property.
(iii) Business loss can be carried forward & set-off against the income from same business or
income from any other business in subsequent year provided speculative loss can be set-
off against speculative profit.
(iv) Short term capital loss can be carried forward & set-off against capital gain but long term
capital loss can be carried forward & set-off against only long term capital gain.
(v) Loss from the owing & maintaining of race horces can be carried forward & set-off
against the income from such activity.

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