Business of prospecting for mineral oils.

54 (1)

Where the assessee undertakes specified oil exploration business, then deduction specified in sub-sections (3) and (4) shall be allowed while computing the income under the head “Profits and gains of business or profession”.

54 (2)

In this section, “specified oil exploration business” means business consisting of prospecting for or extraction or production of mineral oils where the following conditions are fulfilled:—

• (a) the assessee has entered into an agreement with the Central Government;
• (b) such agreement is entered for association or participation of the Central Government or any person authorised by it; and
• (c) such agreement is laid before each House of Parliament.

54 (3)

The deduction referred to in sub-section (1) shall be––

• (a) for the period before the beginning of commercial production, expenditure towards infructuous or abortive exploration incurred in respect of any surrendered area;
• (b) for the period after the commencement of commercial production, expenditure (whether before or after such production) in respect of drilling or exploration activities or services or in respect of physical assets used in that connection;
• (c) for the tax year of commencement of commercial production and such succeeding tax years as specified in the agreement, towards depletion of mineral oil in the mining area.

54 (4)

The deductions referred to in sub-section (1) shall be––

• (a) either in lieu of, or in addition to, any allowance admissible under this Act as specified in the agreement; and
• (b) computed and made in the manner specified in the agreement and the other provisions of this Act shall be deemed to have been modified to such extent.

54 (5)

Where the business or any interest therein as referred to in sub-section (1) is wholly or partly transferred as per the provisions of the agreement, the profit shall be charged to tax or deduction shall be allowed in the following manner:—

• (a) where A is less than C, then (C-A) shall be allowed as deduction in the tax year in which such business or interest is transferred;

• (b) where A is greater than C,––

  • (i) but less than B, then (A-C) shall be the profit chargeable under the head “Profits and gains of business or profession” for the tax year in which such transfer takes place;
  • (ii) in any other case, only (B-C) shall be the profit chargeable under the said head for the tax year in which such transfer takes place; and
  • (iii) no deduction shall be allowed for the expenditure incurred remaining unallowed in the tax year in which such transfer takes place or any subsequent tax year,

  where,––
  A = proceeds of the transfer (so far as they consist of capital sums);
  B = total amount of expenditure incurred in connection with the business or to obtain interest therein;
  C = amount of expenditure incurred remaining unallowed.

54 (6)

If the business or interest therein is no longer in existence in the year of transfer, the provisions of sub-section (5) shall apply as if such business is in existence during the said year.

54 (7)

Where the business or interest therein is transferred in a scheme of amalgamation or demerger and the resulting entity is an Indian company, then the provisions of sub-section (5) shall—

• (a) not apply to the amalgamating or demerged company; and
• (b) continue to apply to the amalgamated or resulting company as it would have applied to the amalgamating or demerged company as if the transfer has not taken place.

54 (8)

In this section, “mineral oil” includes petroleum and natural gas.

Explanation

Section Summary:

Section 54 of the Income Tax Act provides tax deductions for businesses engaged in the prospecting, extraction, or production of mineral oils (including petroleum and natural gas). These deductions are available to assessees who have entered into an agreement with the Central Government or its authorized entity, and the agreement must be laid before Parliament. The deductions apply to specific types of expenditures incurred during exploration, production, and post-commercial production phases.

Key Changes:

1. Introduction of Deductions for Oil Exploration: This section introduces specific deductions for businesses involved in oil exploration, which were not explicitly detailed in the prior Income Tax Act.
2. Conditions for Eligibility: The business must have an agreement with the Central Government, and the agreement must be laid before Parliament.
3. Deduction for Unallowed Expenditure: Provisions are made for deductions related to unallowed expenditures in case of transfer of business or interest therein.
4. Treatment of Transfers in Amalgamation/Demerger: Special provisions are introduced for transfers during amalgamation or demerger, ensuring continuity of deductions for the resulting entity.

Practical Implications:

1. For Oil Exploration Businesses: Businesses engaged in oil exploration can claim deductions for expenditures incurred during exploration, drilling, and production phases, as well as for depletion of mineral oil reserves.
2. For Transfers of Business: If the business or interest is transferred, the tax treatment of profits or deductions depends on the relationship between the proceeds of transfer (A), total expenditure (B), and unallowed expenditure (C).
3. Amalgamation/Demerger: In cases of amalgamation or demerger, the deductions continue to apply to the resulting Indian company, ensuring no disruption in tax benefits.

Critical Concepts:

1. Specified Oil Exploration Business: Defined as prospecting, extraction, or production of mineral oils under an agreement with the Central Government.
2. Unallowed Expenditure (C): Expenditure incurred but not yet claimed as a deduction.
3. Proceeds of Transfer (A): Capital sums received from the transfer of the business or interest.
4. Total Expenditure (B): All expenditures incurred in connection with the business or to obtain interest in it.
5. Depletion of Mineral Oil: Deduction allowed for the reduction in mineral oil reserves over time.

Compliance Steps:

1. Enter into Agreement: Ensure the business has a valid agreement with the Central Government or its authorized entity.
2. Document Expenditures: Maintain detailed records of all expenditures related to exploration, drilling, and production activities.
3. Compute Deductions: Calculate deductions as per the agreement and the provisions of this section.
4. Report Transfers: In case of transfer of business or interest, compute profits or deductions based on the formula provided in sub-section (5).
5. Amalgamation/Demerger: Ensure continuity of deductions by applying the provisions of sub-section (7) during such corporate restructuring.

Examples:

1. Exploration Phase: A company incurs ₹10 crore in exploration activities but finds no oil in a specific area. This ₹10 crore can be claimed as a deduction under sub-section (3)(a).
2. Post-Commercial Production: After commercial production begins, the company spends ₹5 crore on drilling new wells. This expenditure can be claimed as a deduction under sub-section (3)(b).
3. Transfer of Business: If a company transfers its oil exploration business and receives ₹50 crore (A), with total expenditure (B) of ₹60 crore and unallowed expenditure (C) of ₹20 crore, the deduction allowed would be ₹10 crore (C - A = 20 - 50 = -30, but since A > C, profit chargeable is ₹30 crore).
4. Amalgamation: If Company X amalgamates with Company Y, and Company Y continues the oil exploration business, the deductions under this section will apply to Company Y as if no transfer had occurred.