Tests to Determine Agricultural Income

What is agricultural Income

The term “agriculture” has not been defined under the Income Tax Act. In the Advanced Learners’ Dictionary of Current English (Second Edition) printed in Great Britain at the Oxford University Press, the term “agriculture” has been given the meaning as “science or practice of farming; cultivation of the soil”. Various meanings have been given to the word “agriculture” in different dictionaries. “Agricultural Income” has been defined in the Constitution of India in article 366(1) to mean agricultural income as defined for the purposes of enactments relating to Indian income-tax. Subject to its proviso & Explanations, section 2(1A) defines the agricultural income.

Hence plain reading of this section indicates that all agricultural income is exempt. But to understand provisions related to taxability of agricultural income, it is necessary to understand meaning of “agricultural income”. To define agricultural income in one sentence, it can be mentioned that “income derived from agricultural land by carrying out agricultural operations is agricultural income”.

What constitutes agriculture

Hon’ble Supreme Court had elaborately explained what constitute the term agriculture in depth in the case of CIT v. Raja Benoy Kumar Sahas Roy (1957) 32 ITR 466 (SC). It is a landmark case for the understanding of agriculture under the Income Tax Act, wherein assesse was growing tress on a forest land. Growing of trees was inter alia includes of cutting of tress and leaving the stumps to regrow. The Supreme Court held such income as agriculture income and held as under:

“ The primary sense in which the term agriculture is understood is agar-field and cultra–cultivation, i.e., the cultivation of the field, and if the term is understood only in that sense agriculture would be restricted only 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. They would be the basic operations and would require the expenditure of human skill and labour upon the land itself. There are, however, other operations which have got to be resorted to by the agriculturist and which are absolutely necessary for the purpose of effectively raising the produce from the land. They are operations to be performed after the produce sprouts from the land, i.e., weeding, digging the soil around the growth, removal of undesirable under growths and all operations which foster the growth and preserve 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. The latter would all be agricultural operations when taken in conjunction with the basic operations above described, and it would be futile to urge that they are not agricultural operations at all.

However, 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 which have been described above would not be enough to characterize them as agricultural operations. In order to invest them with the character of agricultural operations, these subsequent operations must necessarily be in conjunction with and a continuation of the basic operations which are the effective cause of the products being raised from the land. It is only if the products are raised from the land by the performance of these basic operations that the subsequent operations attach themselves to the products of the land and acquire the characteristic of agricultural operations. The cultivation of the land does not comprise merely of raising the products of the land in the narrower sense of the term like tilling of the land, sowing of the seeds, planting, and similar work done on the land but also includes the subsequent operations set out above, all of which operations, basic as well as subsequent, form one integrated activity of the agriculturist and the term ‘agriculture’ has got to be understood as connoting this integrated activity of the agriculturist. One cannot dissociate the basic operations from the subsequent operations and say that the subsequent operations, even though they are divorced from the basic operations can constitute agricultural operations by themselves. If this integrated activity which constitutes agriculture is undertaken and performed in regard to any land that land can be said to have been used for ‘agricultural purposes’ and the income derived therefrom can be said to be ‘agricultural income’ derived from the land by agriculture. The mere fact that an activity has some connection with or is in some way dependent on land is not sufficient to bring it within the scope of the term and such extension of the term ‘agriculture’ is unwarranted. The term ‘agriculture’ cannot be dissociated from the primary significance thereof which is that of cultivation of the land and even though it can be extended in the manner stated before both in regard to the process of agriculture and the products which are raised upon the land, there is no warrant at all for extending it to all activities which have relation to the land or are in any way connected with the land. The use of the word agriculture in regard to such activities would certainly be a distortion of the term.

It the term ‘agriculture’ is understood as comprising within its scope the basic as well as subsequent operations in the process of agriculture and the raising on the lands of products which have some utility either for consumption for trade and commerce, it will be seen that the term ‘agriculture’ receives a wider interpretation both in regard to its operations as well as the results of the same.

Nevertheless there is present all throughout the basic idea that there must be at the bottom of its cultivation of land in the sense of tilling of the land, sowing of the seeds, planting, and similar work done on the land itself.

This basic conception is the essential sine qua non of any operation performed on the land constituting agricultural operation. If the basic operations are there, the rest of the operations found themselves upon the same. But if these basic operations are wanting the subsequent operations do not acquire the characteristic of agricultural operations”. – [CIT v. Raja Benoy Kumar Sahas Roy (1957) 32 ITR 466 (SC)]

Accordingly, the term ‘agriculture’ is “cultra”, i.e., cultivation of the “agar” i.e., field/land. In other words, raising of a product through the use of human skill and labour on land may be classified as agricultural activity. The “product should have some utility either for consumption, for trade and commerce. The term “Agriculture” receives a wider interpretation both with regard to its “operations” as well as the “results” of such operation.

Looking to the definition given in the Act and above referred landmark decision of the Supreme Court on the matter, following ingredients must be existing in Agricultural Income:

(i)           Existence of Land,

(ii)         Ownership of Land is immaterial

(iii)       Cultivation of land is must

(iv)       The resultant items through basic operation should be in a shape of products either for consumption or trade.

The Income-tax Act, 1961 defines the agricultural income in section 2(1A) as:

“agricultural income” means-

(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

Hence, it includes any ‘rent’ or ‘revenue’ derived from land situated in India & used for agricultural purposes, or, any income derived from such land by agriculture/agricultural operations including processing, or, income from farm houses subject to certain conditions.

But the Act does not define the words ‘agriculture’ or ‘agricultural processes’. The Supreme Court in its seminal judgment CIT v. Raja Benoy Kumar Sahas Roy, defined them. It said that certain basic and subsequent operations are required for an act to be classified as relating to agriculture. Agriculture could include activities other than those meant for man and animals. And not all activities related to land constitute agriculture.

The basic operations referred to above include works done prior to seed germination that involve human skill and efforts. They include tilling, sowing, transplantation of saplings, etc. Subsequent operations include weeding, spraying of pesticides, application of manure, pruning, etc.

Test that determines land is agricultural land

The Gujrat High Court in CIT v. Siddhartha J. Desai has laid down the following tests for determining whether the land is agricultural or not:

(i)   Whether, the land was classified in the revenue records as agricultural and whether it was subjected to payment of land revenue? [CIT v. Smt. Debbie Alemao (2011) 331 ITR 59 (Bom)]

(ii)   Whether, the land was actually or ordinarily used for agricultural purposes at or about the relevant time ?

(iii)  Whether, such user of the land was for a long period or whether it was a temporary character or by way of a stop-gap arrangement ?

(iv)  Whether the income derived from the agricultural operations carried on in the land bore any rational proportion to the investment made in purchasing the land ?

(v)  Whether the land, on the relevant date, had ceased to be put to use? If so, whether it was put to an alternative use? Whether such lessor and/ or alternative user was of permanent or temporary nature?

(vi)  Whether the land, though entered in revenue record, had never been actually used for agriculture, i.e., it had never been ploughed or tilled?

(vii) Whether the owners meant or intended to use it for agricultural purposes?

At the risk of repetition. We may mention that not all of these factors would be present or absent in any case and that in each case one or more of those factors may make appearance and that the ultimate decision will have to be reached on a balanced consideration of the totality of circumstances. – [CIT v. Siddhartha J. Desai (1983) 139 ITR 628 (1982) 28 CTR 148 : 10 taxman 1 (Guj)]

How to Determine Agricultural Income

In order to consider an income as agricultural income, the following basic tests which must be satisfied to treat a particular income as agricultural income

(1)  Existence of a land (i.e. Income derived from land)

It is essential that for any income to be termed as agricultural income land must be effective and immediate source of income and not indirect and secondary. [CIT v. Kamakshya Narain Singh (1949) 51 BOMLR 182 (Bom)]. As a result, interest on arrears of land revenue, dividend paid by a company out of its profits which included agricultural income also [Mrs. Bacha F. Guzdar v.  CIT (1955) 27 ITR 1 (SC)] and salary paid to a manager for managing agricultural farms [Premier Construction Co. Ltd. v. CIT (1948) 16 ITR 380 (PC)] are not agricultural incomes because in all these cases land is not the effective and immediate source of income.

 

In the case of Mrs. Bacha F. Guzdar v. CIT (1952) 22 ITR 158 (Bom) it was observed that although you may hold back the source of the income, you should not go right back to its ultimate source. The moment you came to an immediate and effective source, one ought not to go any further. This case affirmed in Mrs. Bacha F. Guzdar v.  CIT (1955) 27 ITR 1 (SC) and it was been held as under : "No doubt, initial source which had produced revenue was land used for agricultural purposes, but in fact dividend is derived from investment made in shares and the foundation is contractual relationship of the company and the chairman." – [Mrs. Bacha F. Guzdar v.  CIT (1955) 27 ITR 1 (SC)]

 

 

Interest on arrears of rent payable in respect of agricultural land is not agricultural income because the source of income (interest) is not from land but it is from rent which is a secondary source of income and is taxable under income from other sources. – [CIT v. Kamakshya Narain Singh (1949) 51 BOMLR 182 (Bom)]

Dividend has been received from a company which derives its profits from agricultural activities and whose income or part of it is exempt from tax - Dividend income could not be treated as agricultural income in the hands of the shareholder

The true interpretation of 'agricultural income' must be income which is derived from land in the sense that the immediate and effective source of that income is land. In the case of a dividend, whatever may be the, immediate source, it seems to me extremely difficult to say that the immediate source of that income is land. Until a dividend is declared, there is nothing that the shareholder can get. The dividend is conditional upon a declaration being made in that behalf by the general body, and although the dividend ultimately may come out of profits and indeed a dividend cannot be declared without profits being made, the immediate and effective source of that dividend cannot be taken to be land which is the remote or ultimate source of that income, and not the immediate and effective source.

 

Remuneration paid to a manager for managing agricultural farms are not agricultural incomes

Premier Construction Co. Ltd. v. CIT, dealt, with the nature of the commission of a managing agent of the company, a part of whose income was agricultural income. The assessee claimed exemption from tax on the ground that his remuneration of 10 per cent of the profits was calculated with reference to the income of the company part of which was agricultural income. It was held that the assessee received no agricultural income as defined by the Act but that he received a remuneration under a contract for personal service calculated on the amount of profits earned by the employer, payable not in specie out of any item of such profits, but out of any moneys of the employer available for the purpose, and that the remuneration therefore, was not agricultural income and was not exempt from tax. Sir John Beaumont in the above case observed :

“In their Lordships' view the principle to be derived from a consideration of the terms of the IT Act and the authorities referred to is that where an assessee receives income, not itself of a character to fall within the definition 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.” - [Premier Construction Co. Ltd. v. CIT (1948) 16 ITR 380 (PC)]

 (2)   Usage of land for agricultural operations

Agricultural operations means efforts induced for the crop to sprout out of the land. The ambit of agricultural income covers income from agricultural operations, which includes processes undertaken to make the produce fit for sale in the market. Both, rent or revenue from the agricultural land and income earned by the cultivator or receiver by way of sale of produce are exempt from tax only if agricultural operations are performed on the land.

 

To term any income as agricultural income, it is necessary that income must be the result of agricultural operations performed on agricultural land. Agriculture means performance of some basic operations include works done prior to seed germination - tilling, ploughing, sowing, transplantation of saplings irrigating and harvesting and some subsequent operations - weeding, spraying of pesticides, digging, pruning cutting etc. It involves employment of some human skill, labour and energy to get some income from land.

Income from the processes ‘ordinarily employed’ that render the produce fit for the market also

constitute agricultural income. Thus, winnowing, cleaning, drying, boiling, decanting etc. are

agricultural processes. The income from these operations are exempted from taxation. But

extraction of oil from eucalyptus trees do not constitute agricultural operation – [CIT v. Stanes

Amalgamated Estates Ltd. (1997) 232 ITR 443 (Mad)].

If the two operations are performed by different persons - It would not constitute agricultural income. – [CAIT v. New Ambadi Estates Ltd. (1967) 63 ITR 325 (SC)]

(3)  Cultivation of Land is a must 

Some measure of cultivation is necessary for land to have been used for agricultural purposes. The ambit of agriculture covers all land produce like grain, fruits, tea, coffee, spices, commercial crops, plantations, groves, and grasslands. However, the breeding of livestock, aqua culture, dairy farming, and poultry farming on agricultural land cannot be construed as agricultural operations.

 (4)  Land is situated in India

Agricultural income is exempt under Section 10(1) of the Act so long as the income is derived from agricultural land situated in India. This income is, however, included merely for rate purposes and rebate is allowed on the same in accordance with the Finance Act

In other words, to qualify for exemption under section 10(1) of the Act, it is necessary that agricultural income must be derived from land situated in India. In case income is derived from agricultural land situated outside India or is from any non-agricultural land, it will not be exempted under section 10(1). It is taxable income under the head “Income from other Sources.”

Agricultural income from land situated outside India is taxable

Under the Indian Income-tax law, agricultural income is defined to include income from agricultural land, buildings on or related to an agricultural land and commercial produce from an agricultural land “in India”. Agricultural income as defined above is exempt from tax in India subject to prescribed conditions. However, agricultural income from land situated outside India will be taxable in India. It would be included under the head ‘Income from Profits and Gains of Business or Profession’, if it is carried on as a business activity and in any other case under the head ‘Income from Other Sources’.

 

 

(5)   Ownership of Land is not essential 

In the case of rent or revenue, it is essential that the assessee has an interest in the land (as an owner or a mortgagee) to be eligible for tax-free income. However, in the case of agricultural operations, it is not necessary that the cultivator be the owner of the land. He could be a tenant or a sub-tenant. In other words, all tillers of land are agriculturists and enjoy exemption from tax. In certain cases, further processes may be necessary to make a commodity marketable out of agricultural produce. The sales proceeds in such cases are considered agricultural income because the producer’s final objective is to sell his products.

 

Ownership of land is not a prerequisite – Firm can also claim exemption in respect of agricultural income derived from agricultural activity

       Assessee firm claimed exemption in respect of its agricultural income. The Assessing Officer rejected assessee’s claim on two grounds one is assessee was not the owner of the land and secondly being an artificial person, created by law; it could not be an agriculturist, conducting any of the agricultural activities of its own. The CIT(A) allowed assessee’s claim. On revenue’s appeal in Tribunal, Tribunal dismissed the appeal of the revenue and held that in order to come within the ambit of the Act, the person has to be an agriculturist and it was sufficient if revenue was derived from agricultural activities conducted on a land situated in India. Tribunal further held that a cultivator may be the owner but it is not necessary that he has to be the owner. The revenue was derived from land or from agricultural operations only. Relationship between MSFC Ltd. and the assessee firm could be described as that of the landlord and a tenant. The assessee firm had to make the payment of a fixed sum of Rs. 70 lakhs every year to “M’ during the subsistence of the agreement regardless of production from the agricultural farm. Therefore, Assessing Officer was not correct in taking such a view. (Related Assessment years : 2002-03 & 2003-04) - [ITO v. Gajanan Agro Farms (2013) 156 TTJ 679 : 142 ITD 571 : 92 DTR 141 (ITAT Pune)]

 

The character of the land will have to be determined in the light of the facts and circumstances of the case that prevailed in the year of account or at or about that period.—[M. Ranghanatha Sastri v. CIT (1979) 119 ITR 488 (Mad)]

 

Determination of whether certain income constitutes agricultural income

It was held that in order to determine whether a certain income is agricultural income, the immediate and effective source of income must be found out. If the immediate and effective source is not land, the income cannot be considered to be agricultural. - [ACIT v. Narayanan Tratan Namboodiripad (1967) 64 ITR 57 (Ker)]

 

 

The primary sense in which the term ‘agriculture’ is understood is agar field and cultra-cultivation i.e. the cultivation of the field, and if the term is understood only in that sense agriculture would be restricted  only 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. They would be the basic operations and would require the expenditure of human skill and labour upon the land itself.—[CIT v. Raja Benoy Kumar Sahas Roy (1957) 32 ITR 466 (SC)]

 

It is essential that the income should be derived from some activity which necessitates the employment of human skill and labour and which is not merely a product of man’s neglect or inaction except for the gathering in of the spoils. Not only must the assessee labour to reap the harvest, but must also labour to

produce it —[Beohar Singh Raghubir Singh v. CIT (1948) 16 ITR 433 (Nag)]

 

What records shall be maintained to prove agricultural income?

In case of exempt income it is the responsibility of the assessee to prove that the income is exempt. The relevant accounts for agriculture are required to be maintained. The land revenue records, like Khasra, Khatauni, Bhu-rin pustika etc. support the contention of the assessee. Further, mandi receipts justify the sales in case sales are made through Mandi-samiti. Where Assessing Officer doubts that agricultural income cannot be deduced, he shall estimate such income under section 144. The importance of this arises as he would be treating the balance income as ‘Undisclosed Income’.

 

KEY NOTE

It is important to note that while estimating, a reasonable basis shall be adopted looking to the crops grown, fertility, location, distance from market etc.

 

Onus to prove the extent of agricultural income lies on the assessee

Where the assessee claims exemption in respect of a particular amount is agricultural income, the onus is on the assessee to show not only the nature of such amount being agricultural income but also to show the extent of such amount as pertaining to agricultural income. A claim for inflated agricultural income cannot be accepted in the absence of a proper and satisfactory explanation thereabout.—[Gopi Ram Lila v. CIT (1997) 225 ITR 320, 326 (Raj)]

 

KEY NOTE:—

Agricultural income would, however, cover only those incomes which are derived by human effort.

 

In the case of CIT v. Woodland Estate Ltd., while considering the provisions of section 2(1) of the Indian Income Tax Act, 1922, the Kerala High Court held that in order that an income might fall within the definition of agricultural income under section 2(1)(b)(ii) of the Indian Income Tax Act, 1922 two conditions have to be satisfied; (1) the process to which the agricultural produce is subjected whether manual or mechanical should be one which is ordinarily employed by a cultivator and (2) the said process should be employed in order to render the produce fit to be taken to market and not for any other purpose. – [CIT v. Woodland Estate Ltd. (1965) 58 ITR 612 (Ker)]