F. No .225 /190/98/ITA.II

Government of India
Ministry of Finance
Department of Revenue
Central Board of Direct Taxes
New Delhi, the 31st December,1999

To

All Chief Commissioners of Income tax

All Directors General of Income tax

Subject: Finance Lease Agreement- Guidelines for investigation - regarding.

Sir,

An Expert Group was constituted by the Government to examine the various as pects of taxation of leased assets under finance leasing agreements. The report of the expert Group has been accepted by the Government.

1. Instances have come to notice of the Board that in some of the cases of finance lease agreements, the leased agreements , the leased assets had never existed or purchase price for the leased assets , came back to the lessor by discounting the lease rental either directly from the lessee or through circuitous route from, intermediaries or the assets was purchased by the lessor from the lessee ans then leased to the lessee.

2.In order to have a consistent approach in the assessments of any lessor or lessee, their cases should be, wherever feasible, assigned to the same Assessing Officer and where it is not feasible, the Assesing Officers of the lessor and lessee should co-ordinate with each other to ensure consistency of approach in the assessment of the lessor and the lessee the two parties to the same transaction. It will also ensure that the claim of depreciation is not disallowed both to the lessor and lessee.

3.In this background, there is need for the Assessing Officer to properly examine the finance agreements, supporting papers, books of account and make held inquries as detailed below:

i) The Assessing officer should critically examine the lease agreement and also the supporting documents like insurance papers or inspection reports and in the case of companies, the Board resolutions. While examining the agreements the Assessing Officer should particularly examine the following aspects in order to establish the genuineness of transaction and the qwnership of the assets:

(a) date of commencement of the lease.

(b) nature of warranty given by the lessor for quality , condition , suitability , fitness etc. of the leased asstes.

(c) the liability of the lessee in respect of any damage , loss of assets during transportation , delivery . use or its failure to perform during the period of the lease.

(d) the liability to obtain all consents /licences/ approvals etc.for import / storage installation , use operation etc. of the assets during the currency of the lease.

(e) the liability to pay taxes , penalty etc. levied either in connection the transaction or the transfer of asset such as sales tax . goods tax, interest tax , etc.

(f) the variation in rate of the lease rent contingent upon the disallowance of depreciation on the asset in the hand of the lessor.

(g) the condition of transfer back of the asset at the end of the period of lease agreement and the option of the lessee to purchase th easset at the scrap value.

ii) The Assessing Officer should make field enqiries to identify and verify about the existence of the leased assets . The transportation of the assets , the compliance of various provisions of law relating to the transfer of assets such as payment of sales tax , goods tax , insurance of inflammable assets (e.g. gas cylinders ), paymnet of octroi, etc. will have to be examined.

iii) The Assessing Officer should also examine whether the payments made by the lessor for th epurchase of leased assets have come back to him or to his associates by discounting the lease rent directly from the lessee or through some intermediaries.

iv) The Assessing Officer should examine the books of account to see that their lease rentals are accounted for in confirmity with the terms of agreement and satisfy himself that the income has been disclosed for the purpose of taxation on the same basis.

v) In cases of sale and lease back transactions, the Assessing Officer should examine the sale price of the assets to ensure thta the sales are not effected at exaggerated prices In such a case applicability of Explanation 3 to section 43 should be examined . To determine the correct fair market value , if the need be referred to the departmental valuer .

vi) The Asssesing Officer should invoke the provisions of Explanation 4A to section 43 (1) in cases of sale and leased back transaction , where the depreciation is allowed to the lessor at the WDV of the asset in the hands of the lessee at the time of the transfer.

vii) The documents like insurance papers and inspection reports may also be verified in order to ascertain their genuineness.

4. On conclusion of investigation , if the finance lease transaction is found to be not genuine or fraudulent and the basic documants like insurance papers, inspection report etc. are found to be false , then in addition of the disallowance of claim of depreciation, launching of prosecution against the offenders may also be considered.

5. This may be brought to the notice of all Offenders working within your jurisdiction.

Your faithfully,