While calculating income from business or profession, expense incurred wholly and exclusively for business purposes are generally deductible. These include depreciation on fixed assets, interest paid on borrowings in the financial year etc.
Interest paid on outstanding corporate debt is treated as an expense and is tax deductible. Therefore, there are tax advantages associated with using debt financing that are simply not present with either preferred or common stock financing.
Certain expenses are specifically disallowed or the amount of deduction is restricted. These expenses include:
- Entertainment expenses
- Interest or other amounts paid to a non-resident without deducting without tax
- Corporate taxes paid
- Indirect general and administrative costs of a foreign head office.
Various deductions are taken into account in computing taxable income and each head of income has its own special rules. Allowable deductions include wages and salaries, reasonable bonuses and commissions, rent, repairs, insurance, royalty payments, interest, lease payments, certain taxes (sales, municipal, road, property and expenditure taxes and customs duties), depreciation, expenditure for materials, expenditure for scientific research and contributions to scientific research associations and professional fees for tax services.
Specific deductions are allowed as follows:
- A 100% deduction is allowed for interest payments on funds borrowed for business purposes. However, if the funds are borrowed for the acquisition of an asset for the expansion of an existing business or profession, interest paid for any period beginning from the date on which the funds were borrowed for the acquisition of the asset up to the date the asset was first put into use is not allowable as a deduction; instead, it must be capitalized with the cost of the asset and is eligible for depreciation.
- Capital and revenue expenditure may be deducted for research conducted in-house (this can rise to 200%) and for payments made for scientific research to specified companies or organizations or payments to a national government laboratory, certain educational institutions and certain approved research programs (this can rise to 200%).
- Investment-linked incentives (a 100% or 150% deduction for capital expenditure other than expenditure incurred on the acquisition of land, goodwill or financial instruments) are available for specified activities (e.g. setting up and operating certain cold chain facilities or warehousing facilities; laying and operating cross-country natural gas or crude or petroleum oil pipeline networks for distribution, including storage facilities that are an integral part of such networks; investing in housing projects under an affordable housing scheme; and operating a hospital with 100 beds).
- Incentives involving a deduction of 100% of profits for a specified period are available, subject to certain conditions, for certain business activities (e.g. those relating to generation or distribution of power; development of a SEZ; manufacture or production of eligible articles; and collection and processing or treatment of biodegradable waste, among others).
- A company engaged in the manufacture of goods in a factory and that employs new regular workers may qualify for a deduction of 30% of additional wages paid to new regular workers in the year of employment and in the following two years.
- An investment allowance is available in the form of a deduction of 15% of the cost of new plant or machinery to a company engaged in a manufacturing business. A deduction is available if the aggregate cost of plant or machinery acquired and installed from 1 April 2013 to 31 March 2015 exceeds INR 1 billion; a similar deduction is available from 1 April 2014 up to 31 March 2017 if the cost of plant or machinery acquired and installed in a year exceeds INR 250 million. The investment allowance is in addition to the deduction of the normal depreciation allowance in respect of the cost of such assets.
- Interest, royalties and fees for technical services paid outside India to overseas affiliates or in India to nonresidents may be deducted, provided tax is withheld.
- Payments to employees under voluntary retirement schemes may be deducted over five years. To encourage companies to employ additional workers, an amount equal to 30% of additional wages paid to new workers is allowed as a deduction for three years, subject to certain conditions.
- Securities transaction tax paid may be deducted.
- Business losses may offset income.
Indian tax law does not permit companies to take a deduction for a general bad debt reserve, although specific bad debts may be deducted when written off. Expenses incurred for raising share capital are not deductible, as the expenditure is considered capital in nature. No deduction is allowed for expenditure incurred on income that is not taxable, or for payments incurred for purposes that are an offense or prohibited by law.
Amounts payable to nonresidents and subject to withholding are not deductible if the withholding tax is not deposited before the due date for filing the return. Expenses payable to a resident are disallowed to the extent of 30% of such expenses if the relevant withholding tax is not deposited before the due date for filing the return. Expenses subsequently will be allowed as a deduction in the year when withholding tax is deposited.
Certain items are deductible only when actually paid, including taxes, duties, cess, the employer’s contribution toward social security benefits for employees, certain interest payable to banks and financial institutions and leave encashment. No deduction is allowed for income taxes or interest thereon.
No deduction is allowed for expenses incurred for corporate social responsibility, except in certain cases. Amounts contributed to a charitable organization are deductible to the extent of 50% of the contribution, or 100% of the contribution if the company has positive taxable income.
Indian branches of foreign corporations may claim only limited tax deductions for general administrative expenses incurred by the foreign head office. These may not exceed 5% of annual income or the actual payment of head office expenditure attributable to the Indian business during the year (unless otherwise provided for in an applicable tax treaty), whichever is lower.
