1. At the instance of Commissioner of Income-tax, the Income-tax Appellate Tribunal has referred the following question for the decision of this court :
'Whether, on the facts and in the circumstances of the case, the amount of Rs. 20,064, representing expenditure of foreign tours by the managing director and the technical adviser and fees paid to the auditor, could be included in the actual cost of plant and machinery by reference to which depreciation was to be allowed for the assessment years 1961-62, 1963-64, 1964-65, and 1965-6 ?'
2. The reference which is a consolidated one for the four assessment years referred to above, arise out of the assessments of M/s. J. M. A. Industries Ltd., Delhi. The assessed is a limited Company doing business in the manufacture of auto parts. Its accounting year was the calendar year. The Company started commercial production some times in November, 1960. Till October 31, 1960, the factory was in the process of construction and machinery and plant were in the process of installation. The company incurred an expenditure of Rs. 93,717 before the business of the company commenced in the commercial sense. These expenses included, inter alia, traveling expenses of the managing director and the technical adviser to foreign countries amounting to Rs. 35,381, and a sum of Rs. 5,500 paid to the auditor of the Company for work other than annual audit.
3. The company allocated 5/8th of expenditure above mentioned towards the cost of plant and machinery and 3/8th of the expenditure to the cost of the building and claimed depreciation thereon on the above footing. The ITO, however, excluded there from Rs. 5,500 paid to the auditor and also 3/4th of the expenses on foreign tours by the managing director and the technical adviser which respectively came to Rs. 17,832 and Rs. 11,202. The assessed preferred an appeal to the AAC who held that a sum of Rs. 8,463 alone should not have been capitalised but that on the rest of the claim the assessed was entitled to depreciation.
4. The department thereupon filed appeals to the Appellate Tribunal. The Tribunal held that apart from an amount of Rs. 6,000 which had been sanctioned by the Reserve Bank for training of the technical adviser, the balance of expenditure whether for the managing director or for the technical adviser or for the auditors was rightly included in the cost of the assets by the AAC. Firstly, the Tribunal found that there was nothing wrong in the company distributing the total amount of expenditure incurred by the managing director of the company between the three companies in which he was interested, among whom the assessed was one. In the opinion of the Tribunal, the allocation of 1/3rd of the expenses to the assessed-company cannot be called unreasonable having regard to the job he did on their account. Secondly, the Tribunal, found that there was nothing wrong in the assessed-company allocating its expenditure between two classes of assets (the machinery & plant and the building) in the same proportion as the direct cost incurred in connection with these assets. In the opinion of the Tribunal, the basis adopted by the company was quite a scientific one and in accordance with the canone of accountancy and commercial practice. The Tribunal then proceeded to deal with the question whether on principle the expenditure incurred by the company on the foreign tour of the managing director and the technical adviser and on the auditor could be treated as part of the actual cost or whether as contended by the departmental representative these amounts should be excluded from the actual cost because they could not be specifically related to the assets in question. On this question, the Tribunal observed :
'The relation of the expenditure to the assets in question has to be determined in a practical, realistic and business like fashion. The expenditure of an assessed before his business actually is set up and commences commercial production has to be classified broadly in three categories. In the first category will be the expenditure relating to income from sources other than business like interest on deposits of amounts not utilised for business. In the second category it will be expenditure of a preliminary nature connected with business but not referable to any assets. In the third category will fall the expenditure which cannot reasonably fall in the first two categories and which according to conventions of accountancy and commercial practice must be related to the assets which were in the process of installation. The basis of including this expenditure in the third category is that if the assessed were to purchase what is now called the turn-key unit he would have to pay for the assets the price which will include items of expenditure which he would have incurred if he had undertaken the job of installation himself. It is on this assumption that expenditure which is not directly related to the assets is treated as a part of the cost of the assets for purpose of accountancy while determining the value of the assets and while determining the profits earned from the use of the assets. It is on that basis that the expenditure incurred by the assessed for the traveling of the managing director and the technical adviser and for services of the auditors has to be treated as a part of the cost of the assets.'
5. In coming to the above conclusion, the Tribunal relied on the principle enunciated in the decision of the Bombay High Court in Habib Hussain V. CIT : 48ITR859(Bom) and of the Calcutta High Court in CIT V. Standard Vacuum Refining Co. of India Ltd. : 61ITR799(Cal) . It may be mentioned that in relation to a sum of Rs. 6,000 incurred for the expenses of the trip of the technical adviser, the Tribunal agreed with the department that the training of the technical adviser was only for facilitating the working of the machinery and that the expenses thereon could not reasonably enter into the cost of machinery. About this sum of Rs. 6,000 there is no longer any dispute but so far as the sum of Rs. 20,064, the break-up of which is contained in para. 5 of the statement of case, the department is aggrieved by the order of the Tribunal and it is at the instance of the department that the above question has been referred to us.
6. We are of opinion that the conclusion arrived at by the Tribunal was fully justified on the facts and in the circumstances of the case. The principle enunciated by the Tribunal gets considerable support from the decision of the Supreme Court in the case of Challapalli Sugars Ltd. V. CIT : 98ITR167(SC) . The above appeal was heard by the Supreme Court along with an appeal preferred by the Commissioner of Income-tax in the case of Standard Vacuum Refining Co. of India Ltd. : 61ITR799(Cal) which had been succeeded by the Hindusthan Petroleum Corporation Ltd. : 98ITR167(SC) ). The Supreme court affirmed the principle of the decision of the Calcutta High Court in the case of Standard Vacuum Refining Co. of India Ltd. : 61ITR799(Cal) , on this aspect of the matter. In the case before the Supreme Court, the question was whether interest paid by an assessed before the commencement of production on amounts borrowed by the assessed for the acquisition and installation of plant and machinery would form part of the actual cost of the assets to the assessed within the meaning of the expression in s. 10 (5) of the Indian I. T. Act, 1922, so as to entitle him to depreciation allowances and development rebate with reference to such interest also. The Supreme Court answered the question in the affirmative. After referring to the established principles of accountancy as well as the provisions of the Companies Act in this regard, the Supreme Court observed as follows (p. 175) :
'It would appear from the above that the accepted accountancy rule for determining the cost fixed assets is to include all expenditure necessary to bring such assets into existence and to put them in working condition. In case money is borrowed by a newly started company which is in the process of constructing and erecting its plant, the interest incurred before the commencement of production on such borrowed money can be capitalised and added to the cost of the fixed assets which have been created as a result of such expenditure. The above rule of accountancy should, in our view, be adopted for determining the actual cost of the assets in the absence of any statutory definition or other indication to the contrary.'
7. It is not doubt true that the Supreme Court was concerned only with the question of interest paid on amount borrowed for acquiring capital assets but it is clear that the principle would apply not merely to expenditure by way of interest but all expenditure incurred by the company which is necessary to bring the assets into existence and to put them in working condition. The extracts from the various accountancy books contained in the judgment of the Supreme Court would clearly show that all expenditure defrayed towards the construction of work or building or provision of plant including any additions thereto by way of interest should be taken into account as part of the capital cost of the buildings or machinery or plant. In the book by Cropper Morries & Fison Higher Book keeping and Accounts, 7th Edn., referred to at page 173 of the judgment, the principle on which this is rested is that 'if the work were undertaken by a independent contractor he would, of course, take interest into account when preparing the estimates on which to base his tender', and that 'the final cost of the construction work is made up of the cost of the machinery, materials, labour, supervision and establishment charges, plus interest on the capital employed which, but for its employment in that way, would be invested in good securities paying a reasonable rate of interest'. On the above principle the expenditure which will go into the cost of the assets will be not only the expenditure that is directly and specifically referable to those assets (such as interest paid on borrowed capital for the purpose of acquisition, or expenditure that is incurred on the installation of machinery and so on) but also the other expenditure incurred by the company prior to the commencement of the business which the company would have been obliged to incur towards the cost of the assets if, instead of putting up the plant machinery itself, it had employed an independent contractor or adopted the turn-key basis. This appears to us to be a logical extension of the principle laid down in the Supreme Court decision. The Bombay High Court in CIT v. Polychem Ltd. : 98ITR574(Bom) , has also allowed the capitalisation of expenditure of the same nature. We are, thereforee, of opinion that the principle laid down by the Supreme Court in regard to interest will equally apply to the categories of expenditure in question here, though a direct correlation of the items of the expenses to any specific or particular item of the company's assets may not be possible. It will be a question of fact in each case as to whether the expenditure in question is of general or personal nature unconnected with the assets or whether it is expenditure which is referable to the buildings, plant and machinery. In this case, the Tribunal has taken the view that the annual audit fees of the auditor and the expenses incurred for the training of the technical adviser to facilitate the working of the machinery will not form part of the cost of the plant but that the expenditure incurred for the tours of the managing director and the technical adviser and on the auditor, otherwise than for annual audit, can be regarded as expenditure which the assessed would have had to pay as part of the price of the assets in case he had handed over the installation job to an independent contractor. This finding of the Tribunal is a finding of fact and there is no challenge to this finding on behalf of the applicant.
8. Shri Madan Lokur, learned counsel for the department, contended that the apportionment of the expenditure between the three companies had been done on an ad hoc basis. He also suggested that some at least of the expenditure incurred by the managing director on tours had been for his own personal purposes. But these are aspects of the matter which do not arise for consideration before us. It has not been the case of the department at any stage that any portion of the amounts presently in question did not constitute expenditure incurred in relation to the business. The Tribunal has found as a fact that the allocation of expenditure between the three companies was reasonable. These findings are final and cannot now be agitated before us.
9. For the reasons mentioned above, we answer the question referred to us in the affirmative and in favor of the assessed. As the department has failed, it will pay the costs of the assessed. Counsel's fee Rs. 300.