TMI BlogAllowability of interest on capital borrowed u/s 36 provision from assessment year 2016-17.X X X X Extracts X X X X X X X X Extracts X X X X ..... Allowability of interest on capital borrowed u/s 36 provision from assessment year 2016-17. - By: - CA DEV KUMAR KOTHARI - Income Tax - Dated:- 12-8-2015 - - References and links: Section 36.1. iii of the IT Act, 1961 . Relevant judgments on link for SC judgments https://www.taxmanagementindia.com/visitor/case_laws_for_sections.asp?court=SC Prov=036 offset=0 And links for other judgments of High Courts and Tribunals which can be easily found in search tools of the website. Provision about deduction for interest as per s. 36 (1) (iii) is reproduced below with highlights and relevant history. Other deductions. 36. (1) The deductions provided for in the following clauses shall be allowed in ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... respect of the matters dealt with therein, in computing the income referred to in section 28- ( iii ) the amount of the interest paid in respect of capital borrowed for the purposes of the business or profession : 7 [Provided that any amount of the interest paid, in respect of capital borrowed for acquisition of an asset 72 [***] (whether capitalised in the books of account or not); for any period beginning from the date on which the capital was borrowed for acquisition of the asset till the date on which such asset was first put to use, shall not be allowed as deduction. ] Explanation. - Recurring subscriptions paid periodically by shareholders, or subscribers in Mutual Benefit Societies which fu ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... lfil such conditions as may be prescribed, shall be deemed to be capital borrowed within the meaning of this clause; 7. Inserted by the Finance Act, 2003 , w.e.f. 1-4-2004. 72. Omitted vide THE FINANCE ACT, 2015 w.e.f. 1st day of April, 2016, before it was read as, for extension of existing business or profession General discussion : As per original section 36.1. iii the scope of allowing deduction for interest on capital borrowed for the purpose of business or profession was very wide and condition for borrowing for the purpose of business or profession was sufficient to allow deductions. The provision was similar in the Income-tax Act, 1921 as is in ITA 1961 . Courts have taken similar views on both. The provisi ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... on has remained un-amended for a long period of time. We find first amendment in related provision was made in 2004 and to further amend the amendment of 2004, again amendment has been made in the proviso in 2015 as per foot notes to the clause as reproduced above. The scope of deduction allowed under this provision was long ago settled by many judgments of the Supreme Court of India. According to the view taken borrowing of capital for the purpose of the business or profession was sufficient to allow deduction. The capital might be borrowed for a capital expenditure or revenue expenditure. Therefore, interest on capital borrowed for the purpose of acquisition of capital assets was allowed even if it was for expansion of an existing bus ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... iness or even setting up of a new business being part of existing business or as extension of existing business, interest was allowed even if capital asset purchased with use of borrowed funds was not put to use during the previous year. Even scope of restriction imposed by the proviso inserted in 2004 was settled by the Supreme Court. Readers may read judgments on this provision by searching the website. Interest is a day to day expenditure and does not add to value of asset: In this regard it is worth to consider the nature of expenditure by way of interest on capital borrowed. Interest is payable because capital has been borrowed. It will be allowable if capital is borrowed for the purpose of business. Even when capital is borr ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... owed for the purpose of business, but could not be used immediately or for some time, interest has to be paid. Interest paid, is a revenue expenditure because it is not for acquisition or improvement of a capital asset, interest is payable because borrowed funds are used instead of own capital. Interest element really do not add any value to the asset. Whether, interest is paid on capital borrowed for inventory for sale or use in business or for assets acquired for use in business, the nature of interest remain the same- it is a cost of holding and carrying inventory or assets. It does not add to the market value of asset. Therefore, interest should be treated as revenue expenditure, when it is paid on capital borrowed for the purp ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ose of an existing business. Deferment of allowance of interest has not much effect on tax collection: Deferment of allowance in respect of interest or interest allowed after capitalisation in cost of assets, really does not make much difference for the revenue in its overall context and in context of size of revenue by way of taxes. A deduction allowable fully in one year may be allowed over a period of two or more years , really make not much difference for the revenue, though it may be significant for a tax payer. A tax saved in initial years will help business to sustain and survive, whereas a tax imposed in initial year may mar its prospects. Therefore, amendment introduced in 2004 and further amended in 2015, as reproduced above ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... has not much impact on revenue of government. Government s approach: Against liberal interpretation adopted by courts including the Supreme Court , long ago, our Central Government has shown tendency of making provisions to deny benefits of liberal interpretation of provisions taken by courts. We find that even on petty issue of JAL PAAN expenses incurred in course of business allowed by the Supreme Court, retrospective amendment was brought into the Income-tax Act, 1961. The same tendency is being continued by the present government headed by Shri Narendra Modi. Just relief shown is that amendments are made prospective and not retrospective. However, even in deserving cases for clarifying relief allowed by Courts, prospective ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... amendments are made instead of making such clarificatory amendments in interest of public tax payers, tax administration and general administration retrospective. Many such amendments which confirms view taken by courts, are clarificatory and should be made retrospective in clear terms. When we find that there is hardly any discussion in the Parliament, and tax provisions are passed as proposed, without any deliberation by members of Parliament, it appears that the process of passing such law is taken as a mere formality and it is imposition of wisdom of draftsmen and bureaucrats and cannot be called legislative intention. When a provision which was on statute book for a long period of time and it has been interpreted, legislative ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... intention has been ascertained, and such interpretation is reasonable and there is no doubt to say that legislative intention was different, then an amendment made without adequate discussion in Parliament, cannot be called as indicative of change in legislative intentions. An amendment passed in such circumstances should only be regarded as a result of whims of bureaucracy. This is because such amendments really approves view taken by a few tax officers and disregards views taken by many of tax officers and most of courts. The amendments of 2004 has already created lot of litigation, further amendment made in 2015 is also likely to be a reason of litigation by tax payers and by revenue both. Analysis of proviso: The proviso ha ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... s imposed some restrictions on allowability of interest on capital borrowed: The proviso as applicable from AY 2016-17 is analysed below: Provided that any amount of the interest paid, in respect of : capital borrowed for acquisition of an asset whether capitalised in the books of account or not for any period beginning from the date on which the capital was borrowed for acquisition of the asset till the date on which such asset was first put to use, shall not be allowed as deduction. ] Thus this proviso will apply only when capital is borrowed for acquis ion of an asset. Therefore, capital borrowed for general purposes of business will not be covered. In other words, it can be ap ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... plied only when capital is borrowed specifically for acquisition of an asset ( it presupposes to be a capital asset and not item like inventory for resale or used in business). Capitalisation or not in books of account will not make a difference. The disallowance will be for the period beginning from the date on which the capital was borrowed for acquisition of the asset till the date on which such asset was first put to use. Put to use : In case of an existing business a new asset acquired for replacement of old one or for use along with old assets is put to use as soon as the same is issued to the shop floor for alignment with existing one and or for installation. The process of installing an asset, say plant and machinery is ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... also use for the purpose of business. In view of above discussions we find that the amended provisions are also not very clear. This is because an artificial meaning is attached to the concept of interest as a periodical revenue expenditure. Request to NAMO government: To improve ease of work and business is one of declared intention of the NAMO government. In this regard, it should be attempt of the government to make things simple and to make provisions consistent with ground reality of business and normal concepts and to avoid artificial meanings and provisions. Settled issues should not be unsettled by making new provisions. Amendments should not be made with short sightedness and with a view to make a quick buck, ( by exp ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... editing tax collection by postponing deductions). There should not be frequent amendments or even amendments on settled issues unless there are substantial reasons for such amendments. There should not be disputes on issues involving only prepone or postpone any deduction. It makes hardly a difference for the government if some deductions are allowed in 2 nd and 3 rd year instead of 1 st year as claimed by assessee. Though it may make a significant impact on tax payer if his deduction is spread over 2-3 years. - - Scholarly articles for knowledge sharing authors experts professionals Tax Management India - taxmanagementindia - taxmanagement - taxmanagementindia.com - TMI - TaxTMI - TMITax ..... X X X X Extracts X X X X X X X X Extracts X X X X
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