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TMI Blog2023 (6) TMI 342X X X X Extracts X X X X X X X X Extracts X X X X ..... ss amount as income from other sources rather than in netting of the same against substantially higher interest paid which is linked with the said interest earned during pre-operative period related to the sole project being implemented. The Ld. CIT(A) has erred in sustaining the view of the Ld. AO. 3. That the treatment of the said interest from FDRs as income from other sources rather than in assessing the same as capital receipt to be set off against pre-operative expenses is contrary to binding Accounting Standards. As such too, the addition as made and as sustained by Ld. CIT(A) is liable to be deleted. 4. That the FDRs are intrinsically linked to the essential funds for the sole object of setting up the project involved in accordance also with the binding provisions of related agreements. As such too, the interest paid and earned have nexus and it is only the net interest which would have been capable of being considered for adjustment, if any. There is no positive net interest and as such too there is no income capable to being assessed as interest income. 5. That the assessment of the said income from interest on FDRs during preoperative period as income from other ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... okaro Steel Ltd. 236 ITR 315 (SC). Further reliance was placed on the judgment of the Hon'ble Madras High Court rendered in the case of CIT Vs. VGR Foundations 298 ITR 132 (Mad.). Learned counsel further reiterated the submissions as made in the written submissions. For the sake of clarity, the submissions are reproduced herein below: "1. Facts are that the assessee company during the relevant financial year was in the process of setting up a fertilizer manufacturing unit at Kanpur by revamping and renovating a sick industrial unit taken over under a Rehabilitation Scheme sanctioned by the BIFR under the Sick Industrial Companies (Special Provisions) Act, 1985. 2. Apart from the share-holders' funds of Rs. 399.93 Cr as on 31.3.2012, the assessee company had short term debt funds of Rs. 330.38 Cr under the head 'Other Current Liabilities'. All the aforesaid sources of funds were for infusion in the fertilizer project as well as for settlement of the old liabilities of the sick unit taken over under the Rehabilitation Scheme. 3. During the relevant financial year the assessee company earned interest of Rs. 1,93,75,802/- by temporarily placing a part of the shareho ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e Supreme Court in the case of Bokaro Steel Ltd. [1999] 236 ITR 315 has noticed the judgment of the Supreme Court in Tuticorin Alkali Chemicals and Fertilizers Ltd. [1997] 227 ITR 172. "In our opinion, the Tribunal has misconstrued the ratio of the judgment of the Supreme Court in the case of Tuticorin Alkali Chemicals [1997] 227 ITR 172 and that of Bokaro Steel Ltd. [1999] 236 ITR 315. The test which permeates through the judgment of the Supreme Court in Tuticorin Alkali Chemicals [1997] 227 ITR 172 is that if funds have been borrowed for setting up of a plant and if the funds are "surplus" and then by virtue of that circumstance they are invested in fixed deposits the income earned in the form of interest will be taxable under the head "Income from other sources". On the other hand, the ratio of the Supreme Court judgment in Bokaro Steel Ltd. [1999] 236 ITR 315 to our mind is that if income is earned, whether by way of interest or in any other manner on funds which are otherwise "inextricably linked" to the setting up of the plant, such income is required to be capitalized to be set off against preoperative expenses. "It is clear upon a perusal of the facts as found by the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... way of income from other sources and charged to tax is liable to be deleted. 8. In any case, and without prejudice the above, the interest of Rs. 56,26,177/- earned from the temporary investment of interest-bearing debt funds can not be assessed as income for the following reasons - 1) There is no real income from interest because the cost of invested funds is more than the return there-from. Income must exist before it can be charged under s. 4 of the Act. There can be no charge on a fictional or notional income unless specifically authorized. 2) Even if it is held that charge under s. 4 is attracted at the point of accrual of interest on gross basis, the cost of invested funds is deductible under s. 57 of the Act. Significantly, on the issue of deduction of cost of invested funds under s. 57, the Hon'ble Supreme Court in Tuticorin Alkali observed - "However desirable it may be from the point of view of equity, this adjustment cannot be made unless the law specifically permits such adjustment." 3) Apparently, in Tuticorin Alkali, the Hon'ble Court felt constrained by the absence of a specific provision under which the interest cost of invested funds could be al ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... provisions of the Act. It bears note that at the time the judgment in Tuticorin Alkali was rendered (1997), Accounting Standard (AS) 16 did not exist. The standard was issued only in the year 2000. 8) None of the aforesaid arguments and materials was put before the Hon'ble Court in Tuticorin Alkali. Hence the rule in Tuticorin Alkali in- so-far as it pertained to the deductibility of interest-cost of borrowed funds should not be treated as stare decisis. This issue needs to be adjudicated afresh after considering the afore-stated arguments. These arguments are very relevant and material. 9. To conclude, interest earned to the extent of Rs. 1,37,49,625/- from temporary investment of shareholder funds during the construction period of the project is a capital receipt in terms of Indian Oil Panipat Power Consortium Ltd v. ITO 315 ITR 255 (Del) and CIT v. VGR Foundations [2008] 298 ITR 132 (Mad). The interest earned of Rs. 56,26,177/- from temporary investment of interest-bearing debt funds is not taxable because: (a) there is no net income - the cost of invested funds being higher than the return there-from; and (b) such interest is liable to be set-off against preoperati ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... herefore, perfectly possible to have income either before the commencement of the business or even without the existence of the business. 6. Once the business is not in existence, there will not arise any question of applying any of the contingencies which primarily relates to existence of the business. The arguments advanced by the Id. counsel for the appellant concerns primarily with the contingencies of the business income and once there cannot be a business income because of there being no business those contingencies will not apply to the facts of the case. 7. As there is no case of provisions of Chapter IV of the I.T. Act, 1961 applying to the case of the appellant as the business of the appellant has not yet commenced, the plea taken by the id. counsel for the appellant Is of no help. The law does not recognizes a situation where the nature of receipt in the hands of an assessee can be determined with reference to the future situations. The income of assessee is to be computed for the assessment year concerned and with reference to fact of that year alone and not with reference to proposed or possible action likely to take place in the realm of the future. 8. As a p ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... to the setting up of the plant, such income is required to be capitalized to be set off against pre-operative expenses. 12 The test, therefore, to our mind is whether the activity which is taken up for setting up of the business and the funds which are garnered are inextricably connected to the setting up of the plant. The clue is perhaps available in section 3 of the Act which states that for newly set up business the previous year shall be the period beginning with the date of setting up of the business. Therefore, as per the provision of section 4 of the Act which is the charging section income which arises to an assessee from the date of setting of the business but prior to commencement is chargeable to tax depending on whether it is of a revenue nature or capital receipt. The income of a newly set up business, post the date of its setting up can be taxed if it is of a revenue nature under any of the heads provided under section 14 in Chapter IV of the Act. For an income to be classified as income under the head "Profits and gains of business or profession" it would have to be an activity which is in some manner or form connected with business. The word "business" is of wid ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... o be "inextricably linked" to the setting up of the plant of the assessee arc hence was held to be a capital receipt which was permitted to be set or against pre-operative expenses. 14 There is another perspective from which the present issue can be examined. Under section 208 of the Companies Act, 1956, a company car pay interest on share capital which is issued for a specific purpose to defray expenses for construction of any work and which cannot be made profitable for a long period subject to certain restrictions contained in sub-sections (2) to (7) of section 208. This section was specifically noted by the Supreme Court in Challapalli Sugars Ltd. v. CIT [1975] 98 ITR 167. The Supreme Court went on to observe at page 175 as follows : "We have already referred to section 208 of the Companies Act which makes provision for payment of interest on share capital in certain contingencies. Clause (b) of sub-section (1) of that section provides that in case interest is paid on share capital issued for the purpose of raising money to defray the expenses of constructing any work or building or the provision of any plant in contingencies mentioned in that section, the sum so paid by ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... and Rs. 56,26,177/- on debt funds. It is contended that the authorities below grossly erred in not allowing set off against the interest paid on debt fund amounting to Rs. 4,12,82,552/-. 11. We have given our thoughtful consideration to the material placed before us. During the course of hearing it was pointed out by the learned counsel for the assessee that the amount was incurred on the project. In this regard he drew our attention to the balance-sheet to demonstrate that the amount was being utilized for renovating and revamping of the sick industrial unit, hence it is inextricably linked to the project. He further brought to our notice that the assessee company issued bank guarantee to Indian Oil Corporation against the FDR to the tune of Rs. 1417 lakh and of Rs. 7.50 lakh to State Governments. This fact goes to prove that interest income earned by the assessee is inextricably linked with the revival of the project. It is stated that FDR of INR 19,14,70,000/- was kept as margin money against bank guarantee which was given to Indian Oil Corporation and other State Governments of Haryana, Uttar Pradesh and Uttrakhand, including Kanpur Electricity State Co. Ltd. These FDRs were k ..... X X X X Extracts X X X X X X X X Extracts X X X X
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