What is Section 10AA of Income Tax Act?

Section 10AA of the Income Tax Act

Section 10AA of the Income Tax Act is a special provision that allows newly-established businesses or units to enjoy income tax holidays and exemptions for offering services in Special Economic Zones (SEZs). The objective of this section is to promote exports and attract foreign investment by providing tax incentives to units established in SEZs. Section 10AA was introduced in April 2000 under the Foreign Policy Act and was fully formulated in 2006 under the SEZ Act to provide tax concessions to businesses in SEZ. 

Eligibility for Deduction Under Section 10AA

• The tax holiday is available to units established in SEZs on or after April 1, 2005, and before April 1, 2020.
• To claim the tax holiday under section 10AA, the eligible unit must comply with certain conditions, such as obtaining necessary approvals and filing the prescribed returns.
• Transfer of plant or machinery from a previous company to form a new one makes it ineligible u/s 10AA.
• A unit that has claimed deductions u/s 10A for 10 consecutive years before the SEZ Act 2005 is not eligible. 
• If the businesses’ profits were computed under sub-section (7B) of Section 10A, only gains for the unexpired period of 10 years are eligible u/s 10AA.
• The company must commence production on or before 31 March 2023.

Amount of Deduction Under Section 10AA

The amount of deduction applicable u/s 10AA of the Income Tax Act is as follows:

The provisions of this Act are applicable for companies that operated from April 1, 2006, to April 1, 2021. The amount of deduction applicable u/s 10AA is as follows:

• 100% of the profits from the export for the first 5 consecutive assessment years 
• 50% of such profits for 5 assessment years after the above period
• For the next 5 assessment years, not more than 50% of the profit is eligible for tax deduction (this deduction gets debited from an assessee’s profit and loss statement and is credited to his/her ‘Special Economic Zone Re-investment Reserve Account’.) 

A company may avail deductions from the year previous to the one in which it started manufacturing or providing services. These deductions cannot be more than the taxpayer’s total income and are applicable to the industrial undertaking’s total income.

Calculation for Deduction Under Section 10AA of Income tax Act

Deduction under Section 10AA of the Income Tax Act is calculated via the following formula:

• Profit from Export = (Profits of Business x Export Turnover of the Unit) / Total Turnover of the Business

Point to Note:

Profits and gains from the export of articles, things or services determine a taxpayer’s total taxable income. Profit from export is equal to the profits from the undertaking multiplied by the ratio of its export turnover to total business turnover.

Export turnover refers to what a business operating in India receives for its exports. This amount does not include insurance, freight, telecommunication or foreign exchange expenses incurred for delivering items/products or rendering services. 

Also Read

Section 10(10D) of the Income Tax Act: Exemptions & Example

Section 11 of Income Tax Act: Tax Discounts from Property Owned by Charitable Organisations

Special Economic Zone Reinvestment Reserve Account

Business owners of units in SEZ need to create this reserve account to receive deductions under Section 10AA of the Income Tax Act for 5 years after the initial 10 years of tax benefits. Up to 50% of their export profits is debited to their profit and loss account and credited to the SEZ ReInvestment Reserve Account. 

The following conditions are applicable for utilisation of this amount:

• Businesses can utilise the amount in a reserve account only for buying new plants or machinery.
• You cannot use the amount in your ‘SEZ Reinvestment Reserve Account’ for creating assets outside India, distributing profits for dividends or remittance of profits outside the country.
• They have to put the newly acquired plant/machinery to use before 3 years from creating this reserve account. 
• You have to furnish the particulars of purchase of machinery/plant in Form No. 56FF for computation of taxable income. 

If you use the reserve account for any other purpose, your utilised amount will be deemed to be profits and charged as per applicable I-T laws. Moreover, if you do not use this amount within 3 years, it will expire, and taxes will be applicable on it. 

Provisions Regarding Amalgamation or Merger

The following are the results when an SEZ unit has transferred to another business before the expiry of its deduction period u/s 10AA:

• The benefits of Section 10AA of the Income Tax Act are not available for an amalgamating or demerged company.
• Deductions are applicable at the hands of the amalgamated or resulting company. Its taxation would be the same as for a demerged company if no amalgamation/merger took place.

Final Word

Under the existing provisions of Section 10AA, entrepreneurs operating in SEZ can claim deductions for profits and gains from exports. Eligible companies, firms, and individuals can claim 100% of their profits as deduction for 5 years and 50% of profits for the next 5 years. After this, they can receive tax deduction in a special reserve account and utilise it subject to certain conditions. 

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