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TMI Blog1965 (1) TMI 75X X X X Extracts X X X X X X X X Extracts X X X X ..... d in the assessment year 1956-57 on the assessee in the status of an unregistered firm. Now, the assessee-firm having started with an initial capital of ₹ 60,000 had not sufficient funds for the construction of the building which it was going to construct. It, therefore, secured a loan to the extent of ₹ 2,50,000 from two persons, borrowing 2 lakhs from one of them and ₹ 50,000 from the other and secured the said loans by executing mortgages of the land and the building under construction in favour of the creditors. It incurred a total expenditure of ₹ 15,172 over the execution of the mortgages and in its assessment proceedings it claimed this amount as an admissible deduction against the profits from the construction and sale of the building. The departmental authorities held that the amount was not deductible either under section 10(2)(iii) or under section 10(2)(xv) as the expenditure was incurred not on the building but for acquiring loans for financing the building. In the appeal before the Income-tax Appellate Tribunal, the assessee contended that the building, for the construction of which the money was obtained, was the stock-in-trade and the amount ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... cover from the managed company. The share of the commission, which was paid to the stranger under the said arrangement, was claimed to be deducted in computing the profits and gains of the assessees on two grounds: firstly, that the agreement operated as an assignment of the portion of the commission to the stranger and in that view the share assigned had ceased to be income of the assessees, and, secondly, that the share of the commission given to the stranger was an expenditure incurred by the assessees solely for the purpose of earning profits and gains in the conduct of their business and was, therefore, an expenditure of a revenue nature. Both the contentions of the assessees were accepted in that case. Now the commission, which was agreed to be paid to the stranger, was clearly for the purpose of obtaining finances to the managed company. The finances, however, were used for the purposes of earning profits and gains in business and the expenditure, which was incurred for raising the said finances, was regarded as an expenditure for the purpose of earning profits and gains in the course of the business. It would, therefore, appear that in order to determine whether the expendi ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ded to be employed in the business of the assessee and in cases where it was held that it could not be so regarded, the interest paid or the other expenditure incurred in raising the loans has been allowed on the ground that it is an expenditure of a revenue nature. Thus in Texas Land and Mortgage Company v. Holtham [1890] 3 Tax Cas. 255, the assessee-company increased its capital by raising money on debentures and claimed the commission paid to the brokers and the other expenses incurred in raising the money as deductible revenue expenditure. The claim was considered on the footing as to whether the raised money was capital of the company and having held that it was the capital of the company, the claim was disallowed. It may be pointed out that the disallowance of the claim was not on the ground that the expenditure incurred was solely connected with the raising of the capital and not for the purposes of running the business. In Scottish North American Trust Ltd. v. Farmer [1903] 5 Tax Cas. 693, the assessee, who were a company and whose main business was to buy and sell investments, having found that the value of their purchases of investments abroad exceeded the amounts of t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ural Income-tax Act, 1955, the assessee claimed in computing his agricultural income from his plantations, the entire interest paid by him on monies borrowed for the purpose of purchasing the plantations as expenditure laid out wholly and exclusively for the purpose of the plantations under section 5(e) of the said Act. It may be pointed out that in the Madras Plantations Agricultural Income-tax Act there was no provision corresponding to section 10(2)(iii) of the Indian Income-tax Act, which allowed the deduction of interest on borrowed capital. The provision of section 5(e) of the said Act was identical with the provisions of section 10(2)(xv) of the Indian Income-tax Act. It was held that the payment of interest on the amount borrowed for the purchase and the working of the plantations viewed as an integrated whole was so closely related to the plantations that the expenditure could be said to be laid out or expended wholly and exclusively for the purpose of the plantations. In view of these authorities, in our opinion, the short work which the Tribunal has made of the question which was before it by holding that the expenditure was solely for the purpose of raising capital a ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... an advantage for the enduring benefit of a trade;.... and (3) Whether for the purpose of the expenditure, any capital was withdrawn, or, in other words, whether the object of incurring the expenditure was to employ what was taken in as capital of the business. Again, it is to be seen whether the expenditure incurred was part of the fixed capital of the business or part of its circulating capital. Fixed capital is what the owner turns to profit by keeping it in his own possession. Circulating or floating capital is what he makes profit of by parting with it or letting it change masters. Circulating capital is capital which is turned over and in the process of being turned over yields profits or loss. Fixed capital, on the other hand, is not involved directly in that process and remains unaffected by it. These tests were approved of and accepted by the Supreme Court in Assam Bengal Cement Co. Ltd. v. Commissioner of Income-tax [1955] 27 I.T.R. 34, 45; [1955] 1 S.C.R. 972, Bhagwati J., after having enumerated the said tests, observed: This synthesis attempted by the Full Bench of the Lahore High Court truly enunciates the principles which emerge from the authorities. I ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... human affairs and the complicated nature of business operations it is difficult to lay down a test which would apply to all situations. One has, therefore, got to apply these criteria one after the other from the business point of view and come to the conclusion whether on a fair appreciation of the whole situation the expenditure incurred in a particular case is of the nature of capital expenditure or revenue expenditure in which latter event only it would be a deductible allowance under section 10(2)(xv) of the Indian Income-tax Act. These tests have again been referred to as the principles formulated in determining the question as to whether a given item of expenditure is a capital or a revenue expenditure in State of Madras v. G.J. Coelho [1964] 53 I.T.R. 186 already referred to. In a still more recent decision of the Supreme Court given in the case of Bombay Steam Navigation Co. Ltd. v. Commissioner of Incometax [1964] 54 I.T.R. (Sh. N.) 21--Fully reported in [1965] 56 I.T.R. 52, 59 (S.C.), decided on 21st October, 1964 (not yet fully reported [1964] 54 I.T.R. (Sh. N.) 21--Fully reported in [1965] 56 I.T.R. 52, 59 (S.C.)), it has been observed: The question whether a ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... d selling it off after its completion. This business was never expanded by the assessee. No equipments in the nature of fixed assets were also required by the assessee and no part of the loan borrowed was utilised for any such purpose. Applying the second test, the expenditure incurred did not bring into existence any fixed asset or advantage of the nature of an enduring benefit to trade. The amount obtained was wholly spent on the construction of the building, which was the stock-in-trade itself. It was contended that the expenditure was incurred for obtaining a facility of money, which endured for the entire duration of the venture by providing money for the business of the assessee. It was, therefore, argued that the expenditure incurred was for the purpose of obtaining something more than mere finances for the acquisition of the stock-in-trade, viz., a right or facility to carry on or continue the business. In our opinion, this argument cannot be accepted. Every time money is borrowed for the purpose of business it undoubtedly helps or facilitates the business and thus allows it to continue to run, which, but for the help of finance, would ultimately cripple and stop. That, how ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 2,90,000 at interest varying from 7 to 8 per cent. per annum. The annual interest paid by the assessee to the creditors was sought to be deducted by the assessee from the profits and gains of his business for the year under a provision of the Madras Plantations Agricultural Income-tax Act, which was identical with the provision of section 10(2)(xv) of the Indian Income-tax Act. After having applied the tests, the Supreme Court held that the payment of interest was a revenue expenditure because no new asset was acquired with it, no enduring benefit was obtained and the expenditure incurred was a part of the circulating or floating capital of the assessee. In our opinion, therefore, the expenditure incurred by the assessee for executing the mortgages in favour of the mortgagee creditors for obtaining monies for construction and completion of the building was an expenditure not of a capital nature but wholly laid out in the business of the assessee for obtaining profits and gains therefrom. The Income-tax Appellate Tribunal, for the view that it has taken, has relied on Western India Plywood Ltd. v. Commissioner of Income-tax [1960] 38 I.T.R. 533. In that case the assessee was ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... purpose of augmenting the circulating capital of the company, if not wholly, at least to the extent of a major part of it and to the extent to which the borrowed money was used as a circulating capital or for the acquisition of the raw material for the business, the expenditure pro tanto should be considered as a revenue expenditure. The argument, however, was not accepted. The learned judges held that the money was borrowed for the purpose of enlarging or extending the business, if it was paying its way, or was by way of establishing its business, if it was not; in either of which case the borrowed money must be taken to have been obtained on capital account. As to the utilisation of part of the money for the stock-in-trade, they observed that in the first place the nature of the receipt of borrowing whether capital or revenue, was not to be judged solely by the use, which the assessee had found for it subsequently and, secondly, the argument that a part of the borrowed money was utilised for purchasing the stock-in-trade conceded a dual character to the borrowing and involved a notional splitting of the borrowed amount and the expenses, for which there was no rational basis a ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the department. It would be seen that the nature and purpose of the loan in that case, to the extent to which it could be determined on the facts of the case, was that it was obtained for bringing into existence an advantage of an enduring nature to the company. The purpose of the loan, therefore, being that the amount borrowed was to be spent on capital account, the expenses incurred for the borrowing was an expenditure in the nature of capital expenditure. In Annapurna Cotton Mills Ltd. v. Commissioner of Income-tax [1964] 54 I.T.R. 593, the assessee-company by a debenture trust deed raised a loan of ₹ 10 lakhs, the debentures being redeemable in 10 annual instalments. The loan was secured by the mortgage of movable and immovable properties of the company and carried interest at 7 per cent. per annum. The company also agreed to pay to the brokers in perpetuity a commission of 1 per cent. on the gross sales of the assessee's products. Pursuant to this agreement the assessee paid the assignees of the brokers a sum of ₹ 21,798 during the relevant previous year, for which it claimed deduction under section 10(2)(xv). of the Indian Income-tax Act. It was held that ..... X X X X Extracts X X X X X X X X Extracts X X X X
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