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TMI Blog2002 (9) TMI 96X X X X Extracts X X X X X X X X Extracts X X X X ..... principal controversy in this case. This judgment deals with the scope of section 18 and section 28 of the Income-tax Act, 1961. Preface : Meaning of. broken period interest. The assessee-American Express International Banking Corporation is a non-resident banking company. In Income-tax Reference No. 346 of 1987, we are concerned with the assessment year 1977-78 (accounting year ending on December 31, 1976), whereas in I. T. R. No. 173 of 1983, we are concerned with the assessment year 1974-75 and in I. T. R. No. 75 of 1986, we are concerned with the assessment years 1975-76 and 1976-77. Before coming to the facts of the case, a short preface needs to be mentioned. This preface explains the concept of broken period interest. Every bank is required to maintain Statutory Liquidity Ratio (hereinafter referred to as "SLR"). For that purpose, every bank subscribes to Government securities. One such security is known as SGL (Subsidiary General Ledger). This ledger is maintained in the Public Debt Office in the Reserve Bank of India. Every bank is required, as a part of banking business, to subscribe to this loan. This loan/SGL is also transferable like any other security. In this case ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ore the special court, operation of SGL account is in issue and the court is familiar with operation of such accounts. In this connection, it may be mentioned that there are three types of credits which find place in SGL account in the PDO, viz., credit for subscription to new loan; credit for purchase of SGL securities vide SGL transfer forms and, lastly, credit for lodgement of physicals, This aspect is important because it indicates the difference between investment and trading. Subscription to new loans would come under investment, whereas purchase of SGL securities by way of transfer forms would come under trading. After subscribing, the bank trades in SGL securities. This point of difference is not spelt out and seen by the Assessing Officer. It needs to be clarified that SGL account holders operate their account by using the transfer forms prescribed by the Reserve Bank of India. Lastly, it may be mentioned that the credit balances in the PDO ledger are maintained in the form of face value of the security ; that a folio is allocated for each security in the PDO ledger. With this preface, we have to examine the facts of this case. Facts: As stated above, for the sake of con ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... d. However, in view of the judgment of the High Court in the case of CIT (Addl.) v. Vijaya Bank [1976] TLR 524 (Karn), the impugned adjustment was not permitted. Consequently, the Assessing Officer brought to charge, Rs. 4,07,288 as business income. However, the adjustment claimed by the assessee of Rs. 3,06,399 was disallowed. In other words, the Assessing Officer taxed receipt of payment of the broken period interest when the security was sold by the assessee, but he disallowed the deduction for payment made by the assessee for the broken period interest when the assessee bought the securities. This was done by the Assessing Officer as he was of the view that the judgment of the High Court in the case of Vijaya Bank [1976] TLR 524 (Karn) was applicable. The Assessing Officer took the view that outlay on purchase of income bearing assets was in the nature of capital outlay and no part of such outlay could be set off for income-tax purposes as expenditure against income accruing from the asset in question. Consequently, the Assessing Officer added back the aforestated amount of Rs. 4,07,288 being interest received by the assessee for the broken period on sale to the net profits as ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 2 ITR 688. He contended that on purchase, the assessee paid a composite price. He contended that in this case, the basic issue was whether such composite price would be apportioned or bifurcated into interest accrued up to date of purchase and balance of the price. He contended that there is no provision under the Income-tax Act which supports such bifurcation. He further contended that interest income had accrued to the assessee by virtue of purchase and sale of Dated Government Securities. That, such interest income was assessable during the assessment year 1977-78 only under section 18. That, since such interest income came under section 18, it cannot fall under section 28. He contended that once the source of income and the class of income came under section 18, section 28 stood ruled out. In this connection, once again, Mr. Desai has placed reliance on the aforestated judgment of the Supreme Court in Vijaya Bank Ltd.'s case [1991] 187 ITR 541. He cited numerous authorities in support of his contention that once a receipt is classified as income under one of the heads under section 14, such income cannot fall simultaneously under any other head of income under section 14. This ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... d not apply. He further contended that the choice of method of accounting lies with the assessee ; that the valid method regularly followed by the assessee cannot be rejected on the ground that a better method could be visualised. He further contended, by citing illustrations, that there was no difference in the amounts chargeable to tax, whether the assessee's view is adopted or the view of the Department is adopted. He further contended that the stand of the Department would lead to double taxation. He contended that when the assessee bought securities, the assessee paid the broken period interest to the sellers. That payment amounted to Rs. 7,13,627. That, similarly, when the assessee sold the securities, the assessee received payment on account of broken period interest from the buyers amounting to Rs. 4,07,288. He contended that both the above figures are for the broken period interest. However, the Assessing Officer has treated Rs. 4,07,288 as income, but has rejected the assessee's claim for deduction for payment made by the assessee towards broken period interest. In other words, receipt is treated as business income, but payment is disallowed which amounts to double taxati ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... oken period interest (net) paid by the assessee at the time of purchase was a part of the capital cost of the investment and, therefore, the purchase price of the securities cannot be bifurcated into interest accrued up to the date of purchase and balance of the price. Consequently, according to the Department, payment for the broken period interest (net) cannot be claimed as revenue expenditure. On the other hand, the banks have been valuing the securities/interest held by it at the end of each year and offer for taxation, the appreciation in their value by way of profits/interest earned due to efflux of time. They also claimed deduction for the broken period interest payment. According to the assessee-bank, on purchase of Dated Government Security, i.e., for example, in 4 3/4 per cent. Government of India Loan, 1980, f. v. Rs. 5 lakhs for a lesser amount of Rs. 4,92,000, the difference of Rs. 8,000 represents profits, whereas according to the Department, as argued before the court, the difference of Rs. 8,000 represents interest on securities. Consequently, according to the Department, the said difference must be charged to tax under section 18, whereas according to the assessee, ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... or the Department could not explain as to on what basis broken period interest payment was disallowed while broken period interest receipt was taxed. According to the Department, the difference referred to above represented interest on securities. That, such difference came under section 18 of the Income-tax Act. This was the point which was argued orally before the court. This argument is contrary to what is on record. On record, and as held by the Tribunal, the Department has assessed the assessee, not under section 18 as in the case of Vijaya Bank Ltd. v. CIT (Addl.) [1991] 187 ITR 541 (SC), but the assessee's income is brought to tax under section 28 of the Act. Therefore, on the facts, this case does not fall in line with Vijaya Bank Ltd.'s case [1991] 187 ITR 541 (SC). In the present case, the Assessing Officer computed the total income of the assessee at Rs. 5,01,20,289 against revised return of Rs. 4,03,55,680. One of the disputes which arose before the Commissioner of Income-tax (Appeals) was whether the Assessing Officer was right in ignoring the impugned adjustment. Under the impugned adjustment, the assessee deducted broken period interest received, amounting to Rs. 4, ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... oken period interest of Rs. 5,871.63 to the transferor/seller. This amount was debited to interest receivable account. On August 31, 1976, the interest receivable account was debited and the interest income account was credited by Rs. 1,319.44 (being the interest from August 11, 1976, up to August 31, 1976). Similarly, on September 30, 1976, Rs. 1,979.17 was credited to interest income account. The same method is followed for crediting interest income account as on October 31, 1976, November 12, 1976, and December 31, 1976. Therefore, for 142 days, the interest which was credited to interest income account came to Rs. 9,236.12, which was offered for tax. Similarly, on the above methodology, the interest which was credited to interest income account for the calendar year 1977 and which is offered for tax is Rs. 23,750. Similarly, coming to the third year, i.e., 1978, the interest income account was credited by Rs. 20,122.52. Therefore, under the above method of accounting, at the close of every month, the assessee has credited interest income account by Rs. 1,979.17. This figure of Rs. 1,979.17 represents interest at 43/4 per cent. on Rs. 5 lakhs. To sum up, the income returned for ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ion for Rs. 5,871.53 for payment made for the broken period interest at the time of purchase of the security. This point is very important. It distinguishes the facts of this case from that of Vijaya Bank Ltd.'s case [1991] 187 ITR 541 (SC). In the present case, as held by the Tribunal, the Department has proceeded to compute the entire income under section 28. In this case, the Department has sought to tax the broken period interest received under the head "Business" and not under the head "Interest on securities", whereas in the case of Vijaya Bank Ltd. [1991] 187 ITR 541 (SC), the facts show that the Department sought to assess the interest income under section 18, i.e., under the head "Interest on securities". Once the Department seeks to assess broken period interest under the head "Business", then the Department could not have rejected the impugned adjustment in the method of accounting adopted by the bank unless the Department was in a position to prove that the method adopted by the bank did not disclose the true and proper income, Now, when the assessee bought 43/4 per cent. Government of India Loan, 1980, the purchase price was Rs. 4,92,000 and the interest on purchase wa ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... security for the year ending 31-12-1977 2,131.80 Revaluation of security for the year ending 31-12-1978 1,806.11 Loss on sale of security (page 115) (516.94) Interest for the broken period received at the time of sale (page 118) 11,479.17 Interest for the broken period paid at the time of purchase (page 117) (5,871.53) &n ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... , the assessee-bank also traded in such securities. That the assessee-bank bought Dated Government Securities during the intervening period between two due dates. That, on purchase of the Dated Government Security, the assessee became the holder of the security and, accordingly, the assessee received half-yearly interest on the due dates from the Reserve Bank of India on purchase. Therefore, according to the Department, the income which the assessee-bank received came under section 18 of the Income-tax Act-interest on securities. Under the circumstances, it was not open to the assessee-bank to claim deduction for the broken period interest payment made to the selling/transferor-bank. That, it was not open to the assessee to claim deduction as revenue expenditure for the broken period interest payment as no such deduction was permissible under sections 19 and 20 of the Income-tax Act. That, it was not a sum expended by the assessee for realising interest under section 19 and, therefore, the assessee was not entitled to claim deduction for the broken period interest payment as a revenue expenditure under section 28 of the Income-tax Act. In this connection, the Department followed th ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... d 20. This was on the footing that the Department had brought to tax, the aforestated two amounts as interest on securities under section 18. It is in the light of these facts that one has to read the judgment in Vijaya Bank Ltd.'s case [1991] 187 ITR 541 (SC). In the light of the above facts, it was held that the outlay on purchase of income-bearing asset was in the nature of capital outlay and no part of the capital outlay can be set off as expenditure against income accruing from the asset in question. In our case, the amount which the assessee received has been brought to tax under the head "Business" under section 28. The amount is not brought to tax under section 18 of the Income-tax Act. After bringing the amount to tax under the head "Business", the Department taxed the broken period interest received on sale, but at the same time, disallowed broken period interest payment at the time of purchase and this led to the dispute. Having assessed the amount received by the assessee under section 28, the only limited dispute was-whether the impugned adjustments in the method of accounting adopted by the assessee-bank should be discarded. Therefore, the judgment in Vijaya Bank Ltd. ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ion 8 of the 1922 Act (similar to section 18 of the present Act). It was held that United Commercial Bank was not entitled to such a set-off as the income from interest on securities came under section 8 of the 1922 Act. Therefore, even in United Commercial Bank Ltd.'s case [1957] 32 ITR 688 (SC), the Department had assessed income from interest on securities right from the inception under section 8 of the 1922 Act and, therefore, the set-off was not allowed under section 24(2) of the Act. Therefore, United Commercial Bank Ltd.'s case [1957] 32 ITR 688 (SC), has also no application to the facts of the present case in which the assessee's income from interest on securities is assessed under section 28 right from inception. In fact, in United Commercial Bank Ltd.'s case [1957] 32 ITR 688 (SC), the matter was remitted back as it was contended on behalf of United Commercial Bank that the securities in question were a part of the trading assets held by the assessee in the course of its business and the income by way of interest on such securities was assessable under section 10 of the Indian Income-tax Act, 1922 (similar to section 28 of the present Act). It is for this reason that in t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... -do- should be continued notwithstanding that the Karnataka High Court in the case of Vijaya Bank Ltd. [1976] TLR 524, has held that such part of the price is not revenue expenditure and in spite of it not having been established to be the departmental practice to allow such expenditure in case of all banks? (3) Without prejudice to the above, Does not arise in view of our answers whether, on the facts and in the circum- to questions Nos. (1) and (2) hereinabove. stances of the case, the Tribunal was right in law in holding that the Commissioner of Income-tax (Appeals) was justified in directing that the sum of Rs. 4,07,283 being interest received on the broken period of the securities sold by the assessee should not be considered as part of the chargeable income for the year of account? (4) Whether, on the facts and in the cir- In view of the judgment of the cumstances of the case, the assessee is not Supreme Court in the case of United Com- liable to be taxed in respect of the amount mercial Bank v. CIT [1 ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... to expenditure incurred up to June 1, 1976. (6) Whether, on the facts and in the cir- In view of the judgment of this court in cumstances of the case, the Tribunal was the case of Otis Elevator Co. (India) Ltd. v. right in law in holding that the provisions CIT [1992] 195 ITR 682, question No. 6 is of section 40A(5) of the Income-tax Act are answered in the affirmative, i.e., in favour not applicable for disallowance of the of the assessee and against the Depart- expenses incurred by the assessee in respect ment, i.e., section 40A(5) is not applicable of the club membership subscription fees for disallowance of expenses incurred by paid in respect of the employees of the the assessee in respect of club member- assessee-company? &nbs ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... epartment. entitled to deduct the sum of Rs. 6,07,302 being the net interest paid by the assessee for the broken period to the persons from whom it brought the securities while computing its business income? Accordingly, all the above references are accordingly disposed of. No order as to costs. ANNEXURE I Statement showing interest received and interest offered for tax Rs. Interest received on 12-11-1976 11,875.00 Interest received on 12-5-1977 11,875.00 Interest received on 12-11-1977 &nbs ..... X X X X Extracts X X X X X X X X Extracts X X X X
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