REPORTABLE

IN THE SUPREME COURT OF INDIA CIVIL APPELLATE JURISDICTION

CIVIL APPEAL NO.  6  of  2010 (Arising out of S.L.P. (C) No.4378 of 2007)

National Hydroelectric Power Corpn. Ltd.      … Appellant (s)

Versus

Commissioner of Income Tax        … Respondent(s)

J U D G M E N T

S. H. KAPADIA, J.

1. Leave granted.

2. In  this  civil  appeal  filed  by  the  assessee  we  are  concerned  with  

accounting treatment of Advance Against Depreciation (“AAD”, for short).

3. We are concerned with assessment year 2001-02.

4. Assessee is a public sector enterprise registered under the Companies  

Act, 1956.  Its accounts are prepared in accordance with Parts II and III of  

Schedule VI to the Companies Act.  The entire shareholding of the assessee  

is with Government of India.  Its accounts are audited by Comptroller and  

Auditor  General  of  India.   They  are  laid  before  both  the  Houses  of  

Parliament.

5. Assessee is required to sell  electricity to State Electricity Board(s),  

Discoms  etc.  at  tariff  rates  notified  by  CERC.   The  tariff  consists  of  

Depreciation, AAD, Interest on loans, Interest on working capital, Operation  

and Maintenance Expenses, Return on equity.

6. On 26.5.97, GOI introduced a mechanism to generate additional cash  

flow by allowing generating companies  to  collect  AAD by way of  tariff  

charge.  It was decided that the year in which Normal Depreciation fell short  

of  original  scheduled  loan  repayment  installment  (capped  at  1/12th  of  the  

original loan) such shortfall would be collected as Advance against Future  

Depreciation.  In other words, once the loan stood re-paid, the Advance so  

collected would get reduced from the Normal Depreciation of the later years,  

and  such  reduced  depreciation  would  be  included  in  the  tariff,  in  turn  

lowering the tariff.

7. How to account for such an advance is the issue before us?

8. According to the Authority for Advance Rulings (AAR), the assessee  

supplied electricity at the tariff rate notified by CERC and recovered the sale  

price, which became its income; that, in future the said sale price was neither  

refundable nor adjustable against the future bills; that, the sale price (which  

includes AAD) was shown as “sales” in the profit and loss account; that, it  

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was received in terms of the invoice raised by the assessee and, therefore, it  

was “income” in the year of receipt.  However, according to AAR, when it  

came to computation of book profit, assessee deducted the AAD component  

from total sale price and only the balance amount net of AAD was taken into  

profit and loss account and book profit.  Consequently, AAR ruled (which is  

challenged herein) that reduction of AAD from the “sales” was nothing but a  

reserve  which  has  to  be  added  back  on  the  basis  of  clause  (b)  of  

Explanation- I to Section 115JB of the Income-tax Act, 1961 (“1961 Act”,  

for short).   

9. We quote hereinbelow Explanation-I to Section 115JB of the 1961  

Act which reads as under:

“Explanation  1 -  For  the  purposes  of  this  section,  “book  profit”  means the net profit as shown in the profit and loss account for the  relevant previous year prepared under sub-section (2), as increased  by --

(a) xxx

(b) the amounts carried to any reserves, by whatever  name called, other than a reserve specified under  section 33AC; or

xxx

if any amount referred to in clauses (a) to (h) is debited to the profit  and loss account, and as reduced by …”  

10. We find merit in this civil appeal.  On reading Explanation-I, quoted  

above, it is clear that to make an addition under clause (b) two conditions  

must be jointly satisfied:

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(a) There  must  be  a  debit  of  the  amount  to  the  profit  and  loss  

account.

(b) The amount so debited must be carried to the reserve.

11. Since the amount of AAD is reduced from sales, there is no debit in  

the profit and loss account.  The amount did not enter the stream of income  

for the purposes of determination of net profit  at  all,  hence clause (b) of  

Explanation-I  was not  applicable.   Further,  “reserve” as  contemplated by  

clause (b) of the Explanation-I to Section 115JB of the 1961 Act is required  

to be carried through the profit and loss account.  At this stage it may be  

stated that there are broadly two types of reserves, viz, those that are routed  

through profit and loss account and those which are not carried via profit and  

loss  account,  for  example,  a  Capital  Reserve  such  as  Share  Premium  

Account.  AAD is not a reserve.  It is not appropriation of profits.  AAD is  

not  meant  for  an  uncertain  purpose.   AAD  is  an  amount  that  is  under  

obligation,  right  from the inception,  to  get  adjusted in  the  future,  hence,  

cannot be designated as a reserve.  AAD is nothing but an  adjustment by  

reducing the normal  depreciation includible  in the future years in such a  

manner that at the end of useful life of the Plant (which is normally 30 years)  

the same would be reduced to nil.  Therefore, the assessee cannot use the  

AAD for  any other  purpose  (which is  possible  in  the  case  of  a  reserve)  

except to adjust the same against future depreciation so as to reduce the tariff  

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in the future years.  As stated, above, at the end of the life of the Plant AAD  

will be reduced to nil.  In fact, Schedule XII-A to the balance sheet for the  

financial years 2004-05 onwards indicates recouping.  In our view, AAD is  

“income  received  in  advance”.   It  is  a  timing  difference.   It  represents  

adjustment  in  future  which  is  in-built  in  the  mechanism  notified  on  

26.5.1997.   This  adjustment  may take  place  over  a  long period of  time.  

Hence, we are of the view that AAD is not a reserve.   

12. For the aforestated reasons, we hold that AAD is a timing difference,  

it is not a reserve, it is not carried through profit and loss account and that it  

is  “income  received  in  advance”  subject  to  adjustment  in  future  and,  

therefore,  clause (b)  of Explanation-I  to Section 115JB is not  applicable.  

Accordingly, the impugned ruling is set aside and the civil appeal filed by  

the assessee stands allowed with no order as to costs.  

……………………………J.                                    (S.H. KAPADIA)

……….………………….J.                                     (AFTAB ALAM)   

New Delhi; January 5, 2010.

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