SUBJECT TAXATION TOPIC AGRICULTURAL INCOME IN INDIA

SUBMITTED BY SHREYA SINGH ROLL NO. 31 VIIIth SEMESTER B.A. LL.B. (HONS.) FACULTY OF LAW, UNIVERSITY OF ALLAHABAD.
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PREFACE

This project work is concerning the taxation system on agricultural income in India. Agricultural Income is exempt from tax under Section 10(1) of the Income Tax Act. Our constitution contain provisions distributing lawmaking power between states and the union on matters enlisted in three lists contained in the Seventh Schedule of the constitution. List I deals with matters under the domain of the Union of India. List II contain matters which are under the domain of states with regard to legislations. Agriculture sector falls under List II. However, in some cases agricultural income is taken into consideration to determine tax on non-agricultural income of an assessee. In this project, I shall attempt to shed some light on the various details and essentials of this peculiar feature provided under the taxation laws of India. I would take this opportunity to extend my gratitude to Prof. R. K. Chaubey for his endless guidance and patience. Without his direction and support, the accomplishment of this project would not have been possible.

Shreya Singh Roll No. 31 VIIIth Semester B.A. LL.B (Hons.) Faculty of Law, University of Allahabad.

INDEX
S. No. 1. 2. 3. 4. 5. 6. 7. 8. 9. 10. 11. 12. Introduction Definition of Agriculture Agricultural Income as defined under the Income Tax Act, 1961 Characteristic Features of Agricultural Income under the IT Act Agricultural Rent/Revenue Income from Agricultural Produce and from Manufacturing Process Exemption of Capital Gain on transfer of Agricultural Land Agricultural House Property Agricultural Income as Part of Business Profits By Reason of Indirect Connection Dividend paid by Company out of Agricultural Income Disintegration of Income into Agricultural and Non-Agricultural Elements CONTENTS Pg. No. 4 4 5 8 8 12 13 14 14 15 15 15

13. 14. 15. 16.

Burden of Proof Reference to Court Conclusion Bibliography

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INTRODUCTION

Agricultural income [2(1A)] has not been taxed right from the beginning under the Income-tax Act. The justification for such exemption is that income from agriculture is taxed in the form of land revenue. Another reason for its being kept outside the purview of the Income-tax Act, 1961, is that agriculture being a State subject, the Central Government is not entitled to tax this source of income. The State Governments are of course, free to tax this source. A few of them are, in fact, doing so. The position under the Income-tax Act is that section 10(1) exempts agricultural income from income-tax. Because of the exemption it enjoys, it is necessary to clearly understand the definition of the term 'Agricultural Income.

SECTION 10 OF THE INCOME TAX ACT, 1961 :- Incomes not included in total income: In computing the total income of a previous year of any person, any income falling within any of the following clauses shall not be included - (1) Agricultural income

DEFINITION OF AGRICULTURE: 'Agriculture' in its primary sense denotes the cultivation of the field and is restricted to cultivation of the land in the strict sense of the term, meaning thereby tilling of the land, sowing of the seeds, planting and similar operations on the land. These are basic operations and require the expenditure of human skill and labour upon the land itself. Operations which the agriculturist has to resort to and which are absolutely necessary for the purpose of effectively raising produce from the land, e.g., weeding, digging the soil around the growth, removal of undesirable undergrowth, and all operations which foster the growth and preservation of the same not only from insects and pests but also from depredation from outside, tending, pruning, cutting, harvesting and rendering the produce fit for the market, would all be agricultural operations when taken in conjunction with the basic operations. The human labour and skill spent in the performance of these subsequent operations cannot be said to have been spent on the land itself. The mere performance of these subsequent operations on the products of the land, where such products have not been raised on the land by the performance of the basic operations, would not be enough to characterise them as agricultural operations.

AGRICULTURAL INCOME AS DEFINED UNDER THE INCOME TAX ACT, 1961 :

Section 2, Clause (1A) "Agricultural income" means

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(a) any rent or revenue derived from land which is situated in India and is used for agricultural purposes; (b) Any income derived from such land by (i) Agriculture; or (ii) The performance by a cultivator or receiver of rent-in-kind of any process ordinarily employed by a cultivator or receiver of rent-in-kind to render the produce raised or received by him fit to be taken to market; or (iii) The sale by a cultivator or receiver of rent-in-kind of the produce raised or received by him, in respect of which no process has been performed other than a process of the nature described in paragraph (ii) of this sub-clause; (c) Any income derived from any building owned and occupied by the receiver of the rent or revenue of any such land, or occupied by the cultivator or the receiver of rent-in-kind, of any land with respect to which, or the produce of which, any process mentioned in paragraphs (ii) and (iii) of sub-clause (b) is carried on : Provided that (i) The building is on or in the immediate vicinity of the land, and is a building which the receiver of the rent or revenue or the cultivator, or the receiver of rent-in-kind, by reason of his connection with the land, requires as a dwelling house, or as a store-house, or other out-building, and (ii) The land is either assessed to land revenue in India or is subject to a local rate assessed and collected by officers of the Government as such or where the land is not so assessed to land revenue or subject to a local rate, it is not situated (A) In any area which is comprised within the jurisdiction of a municipality (whether known as a municipality, municipal corporation, notified area committee, town area committee, town committee or by any other name) or a cantonment board and which has a population of not less than ten thousand according to the last preceding census of which the relevant figures have been published before the first day of the previous year; or (B) In any area within such distance, not being more than eight kilometres, from the local limits of any municipality or cantonment board referred to in item (A), as the Central Government may, having regard to the extent of, and scope for, urbanisation of that area and other relevant considerations, specify in this behalf by notification in the Official Gazette. Explanation : For the removal of doubts, it is hereby declared that revenue derived from land shall not include and shall be deemed never to have included any income arising from the transfer of any land referred to in item (a) or item (b) of sub-clause (iii) of clause (14) of this section
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CLAUSE (1A): AGRICULTURAL INCOME The definition of 'agricultural income' was the same in this Act as in the 1922 Act. However, in 1970 it was amended with retrospective effect from the commencement of this Act. In order to constitute agricultural income it is no longer required that the land from which the income is derived should be assessed to land revenue or to a local rate, while income from buildings which are situated in urban areas or their vicinity is now excluded from the definition of 'agricultural income' in certain circumstances. In 2002, Explanation 2 was inserted which declared that income derived from any building or land referred to in sub-clause (c) arising from its use for any purpose other than agriculture shall not be agricultural income. Section 10(1) provides that agricultural income is not to be included in the total income of the assessee. The result is that agricultural income is not only exempt front tax but, under the scheme of this Act, is also to be excluded in computing the total income on the basis of which the rare applicable to the taxable income is determined. However, since 1973 the annual Finance Acts have superseded this scheme by providing for inclusion of agricultural income in the total income for the limited purpose of determining the rate applicable to the taxable income. These provisions are constitutional.1 Agricultural income has to be exempted from tax under this Act because Parliament has no power under the Constitution to levy tax on agricultural income. However, Parliament has power to levy tare on capital gain arising from transfer of agricultural land. State legislatures are entitled to impose a tax on any of the categories or agricultural income which are exempted from tax under this Act.2 Like all other income, agricultural income may be realised in cash or in kind: agricultural produce which is used by the assessee as raw material in his business may constitute agricultural income, 3 or the landlord may recover rents in the form of a share of crops. Where an assessee obtains a decree against his tenant for arrears of rent for agricultural lands and in execution of the decree

Joseph v ITO 121 ITR 178; Abdulla v ITO 161 ITR 589. The Constitution, Seventh Schedule, State List, Entry 46. Dooars v C Ag IT 44 ITR 6 (SC).

puts up the tenants holding for sale and purchases it himself, setting off the purchase price against the decretal dues, there is a receipt or realisation of agricultural income.4

CHARACTERISTIC FEATURES OF AGRICULTURAL INCOME AS PROVIDED UNDER THE INCOME TAX ACT, 1961 :

( A ) Clause ( lA) (a): AGRICULTURAL RENT OR REVENUE

This sub-clause requires three; conditions to be satisfied;
(i) the rent or revenue should be derived from land; (ii)

the land should be situated in India; and

Ram Ran v Prov of Bihar 17 ITR 164.

(iii)

the land should be used for agricultural purposes.

(i) Rent or Revenue Derived from Land Rent - is a technical conception, its leading

characteristic being that it is a payment in money or in kind by one person to another in respect of the grant of a right to use land. Revenue is used in the broad sense of return, yield or income, and not in the sense of land revenue. 1 A 'mustajiri lease ' is a lease which creates an interest in land and under which the proprietor gives up his right to collect the rents from the tenants and grants the same to the mustajir in return for a fixed annual payment. That fixed payment is the 'rent' which the proprietor reserves under the mustajiri lease, and therefore should be regarded as agricultural income provided the other conditions are fulfilled. 2
3 The word derived is not a term or art but is synonymous with arising or 'accruing'. Capital gain arising from a transfer of agricultural land had been held by the Bombay High Court to be revenue derived from that land; while the Delhi and Kerala High Courts had taken a contrary view. The Bombay view was superseded, by the explanation to clause (1A) inserted by the Finance Act 1989 with retrospective effect, from 1 April 1970. The Supreme Court has held that explanation 1 is validly enacted. 4 This explanation has been applied by various High Courts m the under mentioned cases. It does not apply to assessment year 1969-70 and earlier years.

Revenue can be said to be 'derived from land' only if land is the immediate and effective source of the revenue and hot the secondary and indirect source. If a person transfers his agricultural land to another in consideration inter alia of a life annuity which is charged 5 upon the land, the annual payment is not agricultural income. It is not rent or revenue derived from land; it is money payable under a contract imposing a personal liability on the covenantor, the discharge of which is secured by a charge on land. The covenantor is at liberty to make the payments out of any moneys and is bound to make them whether the land is sufficiently productive or not. The source of the life annuity is the covenant, not land. Similarly, an amount paid annually in consideration of feudal proprietors of the land relinquishing their claims to the land is not agricultural income, whether or not secured by a charge on the land, for the source of the income is not land but the covenant
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CIT v Kamakshya 16 ITR 325, 328 (PC). Ramchandra v CIT 10 ITR 141. CIT v Kamakshya 16 ITR 325, 328 (PC). Shighai v Uol 247 ITR 150. Gopal v CIT 3 ITR 237 (PC).

to pay. 1 An allowance called ' malikana ' paid by the government under a statutory obligation to a proprietor dispossessed of his land is not revenue derived from land, for the immediate and effective source of the income is the Government's statutory obligation to pay and not land. But compensation received for requisition of land which continues to be used for agricultural purposes after the requisition, is revenue derived from agricultural land. Setting at rest a conflict of opinion among Indian High Courts, the Privy Council held in 2 CIT v Kamikshya Narain Singh that interest on arrears of rent payable in respect of agricultural land is not agricultural income, for it is neither 'rent' nor 'revenue derived from land'. Similarly, where a zamindar obtains from defaulting tenants promissory notes in respect of such arrears of rent, the interest which accrues due on the promissory notes is not agricultural income. 3 On general principles, if salami or premium paid in respect of tenancies or holdings is capital in character, as normally it would be, it would not be taxable as income under the Act, and in that case no further question would arise as to whether it is exempt from tax as being agricultural income. If salami or premium is income in nature, it would be 'revenue derived from land' where it is paid for the settlement of lands or abandoned holdings or for recognition of transfer of holdings. Similarly, jagir income received from the state government which was in the nature of land revenue assigned under the implied grant from the time of the British Government is revenue derived I from land. Mutation fees exacted from tenants upon their succeeding to occupancy holdings, or fees exacted for the grant of a renewal of a lease, are also revenue derived from land, and it is immaterial whether the executions are illegal or legally recoverable. Nazarana may or may not be agricultural income, it depends on the occasion and the purpose for which the payment is made. 4
(ii)

Land situated in India : For income to be 'agricultural income' the land should be situated in India. This condition, like the third one mentioned below, is to be fulfilled not only under sub-clause (a) but also under sub-clause (b) and (c), since those sub-clauses refer to 'such land', i.e. the land mentioned in sub-clause (a). Foreign agricultural income falls outside this definition and is not entitled to exemption under Sec 10 (1). Land used for Agricultural Purposes : Whether exemption as agricultural income i is sought under sub-clause (a) or (b) or (c), the primary condition must be

(iii)

Mustafa v CIT16 ITR330, 337 (PC) 16 ITR 325, followed in Ram Ran v Pwj ofBihar 17 ITR 164. Inuganti v CIT 6 ITC 63. Beohar Singh v CIT } 6 ITR 433.

satisfied that the land in question is used for agricultural purposes. 1 The land must be actually used for agricultural purposes in the accounting year; the purpose for which the land is leased or the purpose for which the land was used when the lease was originally made, is an immaterial consideration. 2 The judgments of the Supreme Court in CIT v Benoykumar Sahas Roy 3 and the Federal Court in Meghraj v Alia Rakhia are leading authorities on the connotation of agricultural land and agricultural purposes. 4 On the question whether land is used for agricultural purposes, the Privy Council laid down two propositions in Mustafa Alt Khan v CIT 5: (i) no assistance is to be got from the meaning ascribed to the word 'agriculture' in other statutes; and (ii) though it must always be difficult to draw the line, yet, unless there is some measure of cultivation of the land, some expenditure of skill and labour upon it, it cannot be said to be used for agricultural purposes within the meaning of this Act. All courts agreed that income from the sale of forest trees, fruits and flowers growing on land naturally, spontaneously and without the intervention of human agency, is not agricultural income. But there was a conflict of judicial opinion on the question whether in cases where there is no tilling or cultivation of the land and the trees are all of spontaneous germination, regular operations in forestry to aid the growth of the trees would constitute agriculture. This conflict was resolved by the Supreme Court in CIT v Benoykumar Sahas Roy . After exhaustively discussing the case-law on the subject, Bhagwati J laid down in that case the following principles: (1) Some basic operation, prior to germination, involving expenditure of human skill and labour on the land itself and not merely on the growths from the land is essential to constitute agriculture; illustrative instances of such basic operations are tilling of the land, sowing or disseminating of seeds, and planting. (2) Subsequent operations, i.e. operations performed after the produce sprouts from the land, eg weeding; digging the soil around the growth, removal of undesirable undergrowths, tending, pruning, cutting, felling and preservation of the plants from insects, pests and other animals, by themselves, would not constitute agriculture. But in cases where the subsequent operations are combined
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CIT v All India Tea 219 ITR 544 (SC). CIT v Burdhan Kuti 17 ITR 191. 32 ITR 466. 1942 FCR 53, AIR 1942 FC 27. 16 ITR 330, 335.

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with the .basic operations, the subsequent operations would also I constitute part of the integrated activity of agriculture. (3) Agriculture connotes not merely the raising of grain and food products for men and animals but also the raising of all commercial crops, eg the cultivation of a casuarina plantation 1, tea 2, coffee 3, tobacco 4, cotton 5, sugar-cane 6, toddy-trees 7, rubber 8, jute, hemp and indigo. (4) Activities not involving any basic operation on the land would not constitute agriculture merely because they have relation to or connection with the land. For instance, breeding and rearing of livestock, dairy farming, butter-and cheesemaking, and poultry farming would not by themselves be agricultural purposes.

( B ) CLAUSE (1A)(B): INCOME FROM AGRICULTURAL P

FROM MANUFACTURING PROCESS:

RODUCE AND

This sub-clause deals with 'income derived from such land' by the methods specified. The phrase 'such land' refers to land described in sub-clause(a), viz 'land which is situated in India and is used for agricultural purposes'. If this primary condition regarding the quality of the land is not satisfied, the case for bringing the income in question within the ambit of sub-clause (a) or (b) must fail. 9 Sub-clause (a) refers to income derived from land which is used directly for agricultural purposes; and sub-clause (b) also covers by-products, such as the, selling of milk, the pasturing of cattle etc, provided the endeavour is agricultural and provided it is

CIT v Sundara 18 ITR 259. MeghrajvAlla hakhia 1942 FCR 53, 62-63. CITv Mathias 7 ITR 48 (PC). CIT v Katragadda 12 ITR 1. Sheolal v CIT4 LTC 375. CIT v Ravalgaon Sugar 15 ITR 297. Yagappa v CIT2 ITC 470. SeeKalpaka Rubber v State ofKerala 232 ITR 450. Mustafa v CIT 16 ITR 330, 335 (PC).

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1 reasonably connected with land used for agricultural purposes. Even under subclause (b) the income must be 'derived from land'. If a farmer has cattle pastured on the farm and the cattle are kept solely for agricultural purposes, the income from the sale of milk as well as of cream and butter made on the farm would be agricultural income as being income 'derived from land used for agricultural purposes'. The treatment to which the raw material is subjected and the circumstances in which it is accorded that treatment, may be such that the finished article cannot be fairly regarded as a product 2 of the use of the land to which the raw material owes its origin.

This is further made clear by the provision in sub-clause (ii) and (iii) under which the process to which the agricultural produce is subjected should not be other than that ordinarily employed by a cultivator to render the produce it to be taken to market. Sub-clauses (ii) and (iii) require two conditions to be fulfilled. First, the process must be one which is ordinarily employed by a cultivatorit is immaterial whether the process 3 is manual or whether it involves the use of machinery. Secondly, the process must be employed to render the produce it to be taken to the market. In other words, the produce must retain its original character in spite of the process: unless there is no market for selling it in that condition. 4 These clauses contemplate the marketing of the produce in the ordinary way and not the mere possibility of selling it; the process must be one ordinarily employed by the cultivators of a particular locality at the relevant time to render the produce it for the market.5

( C ) EXEMPTION OF CAPITAL GAIN ON TRANSFER OF

AGRICULTURAL LAND As per Section 2 (14) (iii) of the Act : "Capital asset" means property of any kind held by an assessee, whether or not connected with his business or profession, but does not include :

Beohar Singh v CIT 16 ITR 433, 443. Ibid at 90-91. Cf under s 80P(2)(a)(iii). Casey v CIT4 ITC 259. CIT v Stanes Amalgamated 232 ITR 443. Parthasarathiah v CIT48 ITR 830.

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(i) Any stock-in-trade, consumable stores or raw materials held for the purposes of his business or profession; (ii) Personal effects, that is to say, movable property (including wearing apparel and furniture, but excluding jewellery) held for personal use by the assessee or any member of his family dependent on him. Explanation : For the purposes of this sub-clause, "Jewellery" includes (a) Ornaments made of gold, silver, platinum or any other precious metal or any alloy containing one or more of such precious metals, whether or not containing any precious or semi-precious stone, and whether or not worked or sewn into any wearing apparel; (b) Precious or semi-precious stones, whether or not set in any furniture, utensil or other article or worked or sewn into any wearing apparel.

And according to Section 54(B) : Capital gain on transfer of land used for agricultural purposes not to be charged in certain cases.

( D ) CLAUSE (1A)(C): AGRICULTURAL HOUSE PROPERTY :

Income from house property is taxable under Section 22 on the basis of its bona fide annual value. Income from such house property as1 satisfies the conditions of this subclause would be agricultural income aid would consequently be exempt from tax. Broadly speaking, the main cumulative requirements of this sub-clause are:
a) the building should be on or in the immediate vicinity of agricultural land in

India1

b) it should be occupied by the cultivator or the recipient of agricultural income

c) the cultivator or the recipient should, by reason of his connection with the

land,
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require it as a dwelling house or as a storehouse or other outbuildings

d) (i) the land should be assessed to land revenue in India or be subject to a

local

rate assessed and collected by officers of the Government as such; OR (ii) where the land is not so assessed to land revenue or to a local rate, it should
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Nawazish v CIT 14 ITR 356. Raju v CIT66 ITR 122.

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not be situated within the urban areas specified in the section or notified by the Central Government. 1

their vicinity,

( E ) AGRICULTURAL INCOME IS EXEMPT, HOWSOEVER AND BY WHOMSOEVER IT IS RECEIVED: AGRICULTURAL INCOME AS PART OF BUSINESS PROFITS :
Income falling within the definition in this Clause would be agricultural income and exempt from tax as such, howsoever and by whomsoever it maybe received. exemption is conferred and conferred indelibly, on a particular kind of income and does 3 not depend on the character of the recipient.
2

The

( F ) NON-AGRICULTURAL INCOME DOES NOT BECOME AGRICULTURAL BY

REASON OF INDIRECT CONNECTION WITH AGRICULTURAL LAND : As stated above, where the income falls within the definition of agricultural income it earns exemption, in whatever character the assessee receives it.; Conversely, as the Privy Council laid down in Premier Construction Co Ltd v CIT4, Where an assessee receives income, net itself of a character to fall within the deinition of agricultural income contained in the Act, such income does not assume the character of agricultural income by reason of the source from which it is derived or the method by which it is calculated.

( G ) DIVIDEND PAID BY COMPANY OUT OF AGRICULTURAL INCOME

The Supreme Court held in Bacha Guzdar v CIT 5 that a dividend paid by a company out of its agricultural income is not exempt from tax as being agricultural income in the hands of the shareholder. Applying the test laid down by the Privy Council in CIT v Kamakshya 6 Narain Singh , the Supreme Court held that the immediate and effective source of the dividend being the shareholding and not the land, the dividend could not be said to be
1

CIT v Bhanja Deo 111 ITR 178. CIT v Kameshwar 3 ITR 30, 308-09 (PC). Ibid. 16 ITR 380, 3384. 27 ITR 1, followed in Thomos v CAg IT 34 ITR 454. 16 ITR 325, 328.

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revenue or income derived from land.

( H ) DISINTEGRATION OF INCOME INTO AGRICULTURAL AND NONAGRICULTURAL ELEMENTS : If an income receipt comprises both agricultural and non-agricultural elements, it should be disintegrated, and that portion which represents agricultural income should be exempted from tax. 1

( I ) BURDEN OF PROOF :
The burden is on the assessee who claims exemption from tax to prove that the income question is agricultural income. in

( J ) REFERENCE TO COURT :
The question whether a particular item of income is agricultural within the meaning of the 2 statutory definition is a mixed question of fact and law.

Cf Bomford v Osbome 23 TC 642 (HL). Beohar Singh v CIT16 ITR 433,437.

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CONCLUSION

In the light of the above discussion, it maybe concluded that The position under the Incometax Act is that section 10(1) exempts agricultural income from income-tax. The onus lies on the assessee to prove whether an income is agricultural income or not. The word 'revenue' used in Section 2(1A)(a) should be interpreted in broadest sense to include yield or income and not the source of land revenue. 1 Section 2(1A)(b) stipulates there should not be any difference between sale of a commodity and what is cultivated and processed. The essence of agriculture, even when it is extended to include 'forestry', is the application 2 of human skill and labour. Without that it can be neither art nor a science. There are certain incomes which are neither wholly agricultural in nature nor can they be said to arise from business. On the other hand they include some elements of agriculture and some those of business. Profits of a sugar mill which grows its sugarcane can be cited as one of the examples.

Durga Narain Singh v. CIT (1947) 151 ITR 235 (All.). Beohar Singh Raghubir Singh v. CIT [1948] 16 ITR 433 (Nag.).

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BIBLIOGRAPHY

BOOKS -

Kanga, Palkhivala and Vyas : The Law And Practice Of Income Tax Law of income tax : Kailash Rai Assorted Notes : Prof. R.K Chaubey

WEBSITES www.incometaxindia.gov.in en.wikipedia.org/wiki/Taxation_in_India www.taxmann.com

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