1. The Rewari Electric Supply & General Industries, Delhi (hereinafter referred to as 'the assessed'), is a limited company. The present reference under s. 256(1) of the I.T. Act, 1961, is a consolidated reference for the three assessment years 1967-68, 1968-69 and 1969-70 and raises a somewhat interesting question regarding the deductibility of the interest paid by the assessed-company. The relevant previous years with which we are concerned are the financial years 1966-67, 1967-68 and 1968-69. The reference arises in the following circumstances.
2. The assessed-company, right from 1947, was having two activities : (1) a business in the manufacture and sale of aluminium utensils (metal business); and (2) the running of an electricity undertaking at Rewari (electricity business). The assessed had borrowed considerable sums of money from the Upper India Sugar Mills Ltd. (hereinafter referred to as 'Upper India') and its managing agents. Such borrowings as on March 31, 1948, were to the tune of Rs.5,21,250 and rose to Rs. 9,93,340 on March 31, 1965. The borrowings were shown in the books of account relating to the electricity undertaking. It may be mentioned here that, as one of the activities carried on by assessed was that of an electrical undertaking for which it had to maintain separate accounts under the Electricity Act, the assessed was maintaining separate sets of accounts for its two sets of activities and that the interest paid on the borrowings was being allowed as a deduction in the computation of the income from this activity. The assessed was making profits in its metal business for the assessment years 1948-49, 1949-50 and 1951- 52. In all other years, however, it suffered losses and these losses were particularly substantial in the assessment years 1950-51, 1952-53 and 1953-54. The result was that during the financial years 1959-60 to 1963-64, the activities in the metal business came to a standstill. But again in the subsequent two financial years, namely, 1964-65 and 1965-66, the business appears to have been revived though it again resulted in losses.
3. The position in the electricity business was somewhat better. Though there were losses in some years there were also profits particularly from the assessment year 1956-57 onwards except for the financial years 1957-58 and 1963-64.
4. On April 24, 1965, the electricity undertaking of the assessed was taken over by the Government under the provisions of the Indian Electricity Act and the assessed was entitled to be paid the market value of the undertaking as on the date of take-over. The assessed received compensation aggregating Rs. 8,40,000 in three installments as follows :
Accounting year AmountRs.March 31, 1966 5,95,000March 31, 1967 1,50,000March 31, 1968 95,000
5. An amount of Rs. 76,928 was also received by way of adjustment against certain bills payable by the assessed. The assessed had not accepted as correct the amount of compensation determined as payable to it during the accounting years presently under consideration as well as at the time when the matter was agitated in appeal before the AAC and the Tribunal. There was a dispute between the assessed and the Government regarding the amount of compensation and it was stated that the matter was likely to be referred to arbitration. Consequent on the take-over of the business in electricity on April 24, 1965, the assessed transferred the liability in respect of the borrowings made by it from Upper India to the books of account relating to the business in aluminium utensils. The amounts of compensation received were also credited in those books. The amounts of compensation received were paid partly to the Upper India and partly to the consumers by way of refund of their security deposits. It may be mentioned that the amount of loan payable by the assessed to the Upper India stood at Rs. 3,44,148 for the assessment year 1967-68, Rs. 3,78,241 for the assessment year 1968-69 and Rs. 2,04,901 for the assessment year 1969-70. The assessed also paid to the Upper India interests of Rs. 24,931 in the first year, Rs. 21,155 in the second year and Rs. 21,325 in the third year, respectively.
6. For the assessment years 1967-68, 1968-69 and 1969-70 the assessed claimed as deduction the amounts of interest paid to the Upper India during the relevant years of account. The ITO pointed out that during the years in question the company was only having the metal business whereas the interest expenses pertained to the electricity business. The assessed's contention that the loans that had been taken from the Upper India, though entered in the electricity business accounts were not actually utilised for that business, was not found acceptable. He found that in the metal business the interest on borrowed capital claimed in the earlier years was only to the tune of Rs. 8,000. He, thereforee, took the view that the assessed could get a deduction for interest only to the extent of Rs. 8,000 in each of the years under consideration and he disallowed the claim to the extent of Rs. 16,931, Rs. 13,115 and Rs. 13,325, respectively, in the three assessment years presently under consideration.
7. The assessed appealed to the AAC. The assessed's contention was that it was carrying on only one business and that the loans were shown in the accounts of the electricity business with a view to inflate the expenses therein so that the appellant could charge higher rates for the electricity from the consumers, as the rate of charge depended on the total expenditure incurred. It was also contended that, after the electricity business was taken over, the assessed was maintaining only one profit and loss account and one balance-sheet. It was further contended that the amount of interest received had been disregarded erroneously. These arguments were not accepted by the AAC. The AAC pointed out that the loan taken from the Upper India was used in the electricity business and had been accounted for in that business. The accounts had been audited and scrutinised by the Government and it was not possible to accept the contention that the loans were accounted for merely with a view to overloading the expenses therein. Further, the compensation amounts received were to a substantial extent repaid to Upper India. A sum of Rs. 4,00,000 in the assessment year 1966-67, Rs. 1,33,700 in the assessment year 1967-68 and Rs. 1,49,589 in the assessment year 1968-69, had been paid back to Upper India out of the compensation amounts and the remaining amounts had been used for the repayment of security (deposits) to the consumers of electricity. The AAC was of the opinion that merely because the compensation amounts received had been credited and the liability transferred to the metal business after the electricity business was taken over it could not be said that the loan taken from Upper India had been utilised for the purposes of the metal business. However, the AAC accepted the contention of the assessed that the interest received should also be taken into account, and that only the net payment of interest should be disallowed. He found that in the metal business the assessed had accounted for interest receipts of Rs. 15,984, Rs. 15,978 and Rs. 15,535, respectively, in the three assessment years and that, thereforee, the net interest paid out by the assessed which could be disallowed would work out only to Rs. 10,983, Rs. 5,347 and Rs. 5,826, respectively. He, thereforee, restricted the disallowance to these amounts.
8. Not satisfied with the relief granted by the AAC, the assessed preferred further appeals to the Income-tax Appellate Tribunal. It was contended on behalf of the assessed before the Tribunal that as a matter of fact the assessed was carrying on only one business activity of which the business in metal and the business of electricity were two divisions or sections. It was urged that there was complete inter-connection and inter-lacing between the two sets of activities which were carried on in the same premises with the help of the same organisation and that there was a common source of finance, common management and considerable inter-linking between the transactions in the two sets of activities. An attempt was also made to reiterate the contention that factually the borrowings were made only for the metal business and that the transfer of liabilities to the electricity business was under a wrong impression, that by doing so the assessed will be able to charge higher electricity rates from the consumers. An attempt was also made to contend that the assessed was permitted by its memorandum to carry on a business by investing and dealing with the monies of the company not immediately required in such a manner as may from time to time be determined.
9. The Tribunal considered the contentions raised by the assessed which were strongly refuted by the department and ultimately came to the conclusion that the assessed's claim for deduction of interest paid on the loans taken from Upper India should be allowed though not on the grounds on which they had been claimed by the assessed. The Tribunal was unable to accept the assessed's contention that the metal business and the electricity business constituted a single business. On the other hand, not only by their very nature but also in the light of the history of the assessed's case, it was clear that the assessed was carrying on two separate and independent business, one in aluminium and the other in electricity. The Tribunal also agreed with the department that the borrowings were made for the purposes of the electricity undertaking and not for the purposes of aluminium business. However, the Tribunal proceeded to say :
'We are, however, unable to accept the position taken up by the departmental representative that on the taking over of the electricity undertaking, no other source had come into existence. Immediately on the take-over of the electricity undertaking by the Govt., the Govt. became liable to pay compensation to the company and that liability of the Govt. became a fresh source of income. That fresh source of income was clearly linked with the borrowings and as a matter of fact that source began to yield some receipts; whether on capital account or on revenue account, it was a matter of no consequence. There could be no doubt about the emergence of a source and once the source is established any expenditure incurred which is inextricably linked with the emergence and continuance of that source has necessarily to be allowed as a deduction for the determination of income under the head 'Other sources'. It is now settled law that (it is not( ?)) necessary that a source should yield income before expenditure relating to that source could be considered and allowed. The accrual or arising or earning of income might be delayed but expenditure may have to be incurred for earning that income and for keeping the source alive and in connection with bringing of the source into existence. The expenditure so incurred has necessarily to be taken note of an income whether positive or negative determined in respect of that source. It is on that ground that we hold that the assessed was entitled to the deduction of the remaining amounts which have been disallowed by the Appellate Assistant Commissioner out of the interest claimed. They will be allowed as interest deductions under the head 'Other sources' and the loss should be determined under that head on that footing.'
10. The Commissioner is not satisfied with the order of the Appellate Tribunal and hence at his request a statement of case has been drawn up and the following question has been referred to this court for its opinion :
'Whether, on the facts and in the circumstances of the case, the net interest paid by the assessed amounting to Rs. 10,953 in the first year, Rs. 5,347 in the second year and Rs. 5,825 in the third year was allowable as a deduction in determining its total income for the assessment years 1967-68, 1968-69 and 1969-70, respectively ?'
11. Learned counsel for the department contended that the Tribunal's decision was inconsistent with the findings of fact arrived at by it. He drew our attention to three principal findings given by the Tribunal which remained uncontroverter by the assessed : (i) that the electricity business and the metal business did not constitute one business but were really two separate and independent business for which separate accounts were also maintained by the assessed; (ii) that the funds borrowed from Upper India and its managing agents were utilised in the electricity business and had not been merely accounted for in that set of books in order to get some temporary advantage as alleged by the assessed; and (iii) that the electricity business, on its being taken over by the Government, had ceased to be carried on by the assessed. Learned counsel contended that since the monies had been borrowed for the purposes of the electricity business and that business had ceased to exist on April 24, 1965, the assessed was not entitled to any deduction in respect of the interest paid on the monies borrowed for the above purpose. Learned counsel also contended that the Tribunal's finding that the interest should be allowed, because though the business had ceased to exist, a fresh source of income in the shape of the Government's liability to pay compensation to the assessed had come into existence and that the expenditure was inextricably linked with the emergence and continuance of that source, was wholly unsustainable. He submitted that the mere liability of the Government to pay compensation or the receipt of monies by way of compensation from the Government cannot constitute any source of income unless the monies so received had been invested in deposits, shares, property or similar tangible source from which the assessed could expect an income. Again, it was not correct, said learned counsel, to connect the borrowed funds with the alleged source of income in the shape of the compensation or the right thereto. The payment of interest by the assessed cannot be said to have been laid out or expended with a view to earn cannot from the compensation received or receivable. It was, thereforee, submitted that the Tribunal should had disallowed the payment of interest and confirmed the order of the AAC. In support of his contentions learned counsel referred to the decisions reported in L. M. Chhabda and sons v. CIT : 65ITR638(SC) , P. RM. S. Ramanathan Chettiar v. CIT : 72ITR534(Mad) , Seth Shiv Prasad v. CIT : 84ITR15(All) , CIT v. Rao Raja Kalyansingh , Mehboob Productions P. Ltd. v. CIT : 106ITR758(Bom) and CIT v. New India Assurance Co. Ltd. : 122ITR633(Bom) .
12. There is some plausibility in the contentions urged by the learned counsel for the department and the matter in issue is also not entirely free from difficulty. But after considering the facts of the present case carefully and also the aspects urged by the learned counsel before us, we are of the opinion that the conclusion arrived at by the Tribunal appears to be not only equally plausible but also correct. It is no doubt well established that where a business has ceased to exist, a deduction cannot be permitted in respect of amounts pertaining to that business. The cases cited by Sri Wadera were on this point. But while it is true that the amounts appear to have been borrowed for the purposes of the electricity business and accounted for in the books of that business, what we have to consider is that situation that prevailed after the electricity business was taken over by the Government. It is common ground that the assessed transferred the liability on account of these borrowings to the books of account relating to the metal business. It has been argued that much importance cannot be attached to this circumstance, because, after the electricity business was taken over, the assessed had only one business and assessed had no option but to account for the liabilities in the metal business. It seems to us, however, that this might be an understatement of the real position. We have mentioned earlier that so far as the metal business was concerned it had been continuously sustaining losses till 1959. In fact, annex. F to the statement of case makes it fairly clear that the business was in loss even in accounting year 1958-59 and thereafter there was absolutely no activity in this set of books between the accounting years 1959-60 and 1963-64. The business appears to have been revived only in the financial year 1964-65. It would, thereforee, appear from the figures given in annexs. F and G to the statement of case that when the electricity business was taken over and certain compensation monies were received by the assessed these amounts were utilised to revive the metal business. From this point of view the transfer of the liability from the electricity business to the metal business cannot be considered to be a mere book entry but really reflected the fact that the metal business was revived with the help of the compensation amounts received from the Government. From this point of view it would be correct to say that the monies borrowed from Upper India and its managing agents, though originally borrowed for the purposes of the electricity business of the assessed and utilised therein, got transferred for utilisation in the metal business which was the only surviving business of the assessed after April, 1965. It is also seen from the AAC's order that the compensation amounts received remained with the assessed for some time before they were utilised for repayment to Upper India or to the consumers of the electricity business. In view of these facts it may even be correct to say that the interest paid on borrowed capital by the assessed was really attributable to funds that were utilised in the metal business in the course of the accounting year. It is true that the original borrowings were made for the purposes of the electricity business but once they are treated as transferred to the metal business there can be no objection to allowing the assessed deduction of interest against the profits of the metal business.
13. This apart, even the conclusion arrived at by the Tribunal appears to be quite legitimate and plausible. Granting that the monies were borrowed for the purposes of the electricity business no vacuum was caused by the cesser of the electricity business. Having regard to the circumstances and the manner in which the business was transferred to the Government the assessed was entitled to be paid the market value of the assets of the electricity business. The monies had been borrowed by the assessed for the purposes of the electricity business and were also invested, inter alia, in the assets of that business. These assets came to be substituted, when the business was taken over, by the compensation payable and paid to the assessed in respect thereof. It may be that the compensation amount was not immediately utilised for any profitable purpose and that it did not yield any interest income or other income to the assessed during the previous year. But there appears to be nothing unnatural or farfetched in saying that the monies constituted, or represented a source of income. The borrowed monies had been invested in the assets of the business which have got substituted by the compensation monies. If the compensation received had been invested in shares, securities or other income yielding assets, learned counsel concedes, the interest would be deductible even though such shares or other assets may not yield any income during the year of account. For example, if such compensation money had been deposited in a bank account, the interest on borrowed capital could have been fallen due during the previous year. It is well settled, as pointed out by the Supreme Court in the case of Rajendra Prasad Moody : 115ITR519(SC) , that it is not a precondition for deduction that the source of income in respect of which it is claimed should be revenue yielding in the particular previous year. What is relevant is that a potential source of income should exist from which the assessed can receive then or later an income which will be subjected to tax. We are, thereforee, of opinion that the Tribunal came to the right conclusion in thinking that the take-over of the electricity business did not create a vacuum leading to the assessed's disability from claiming the interest on borrowed capital as deduction but that it actually gave place to a source of income against which the interest payments could be deducted though that source of income did not result in any positive income for taxation during the previous year under consideration. For the above reasons, we agree with the view taken by the Tribunal and answer the question referred to us in the affirmative and against the Revenue. In the circumstances of the case, however, we make no order as to costs.