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Shree Digvijay Cement Co. Ltd. Vs. Commissioner of Income-tax, Gujarat-v - Court Judgment

LegalCrystal Citation
SubjectDirect Taxation
CourtGujarat High Court
Decided On
Case NumberIncome-tax reference No. 160 of 1976
Judge
Reported in(1982)26CTR(Guj)184; [1982]138ITR45(Guj)
ActsIncome Tax Act, 1961 - Sections 10(2), 37, 43(1), 57, 57, 80M, 85A and 99(1)
AppellantShree Digvijay Cement Co. Ltd.
RespondentCommissioner of Income-tax, Gujarat-v
Appellant Advocate S.P. Mehta, Adv.
Respondent Advocate S.N. Shelat, Adv.
Cases ReferredCloth Traders (P.) Ltd v. Addl.
Excerpt:
direct taxation - actual cost of machinery - sections 10, 37, 43, 57, 85a and 99 of income tax act, 1961 - delay in shipment of machinery received from suppliers - suppliers paid compensation for such delay - income tax authority wanted to deduct compensation from cost of machinery for allowing depreciation - held, amount paid was in consequence of failure to provide delivery - actual cost of machinery remain unaffected. - - under circumstances which are beyond the control of the seller such as, unavoidable, accidents, lock-outs, strikes, civil commotion and the like, the delivery period will be enhanced by the respective delay caused due to these factors but the seller shall inform immediately to the buyers both by cable as well as by letter about such happenings. clause 2 of the.....mankad, j. 1. in this reference out of the order dated august 16, 1975, of the income-tax appellate tribunal (hereinafter referred to as 'the tribunal'), seven questions have been referred to us for our opinion at the instance of the assessee. each question involves separate and distinct facts. it would, therefore, be convenient to deal with each question separately. 2. first question which is referred to us is as follows : '(1) whether, on the facts and in the circumstances of the case, the tribunal was justified in holding that the actual cost of machinery has to be reduced by the amount of compensation for delay in shipment of the machinery received from the suppliers, for the purpose of allowing depreciation and development rebate ?' 3. facts relating to this question are as follows......
Judgment:

Mankad, J.

1. In this reference out of the order dated August 16, 1975, of the Income-tax Appellate Tribunal (hereinafter referred to as 'the Tribunal'), seven questions have been referred to us for our opinion at the instance of the assessee. Each question involves separate and distinct facts. It would, therefore, be convenient to deal with each question separately.

2. First question which is referred to us is as follows :

'(1) Whether, on the facts and in the circumstances of the case, the Tribunal was justified in holding that the actual cost of machinery has to be reduced by the amount of compensation for delay in shipment of the machinery received from the suppliers, for the purpose of allowing depreciation and development rebate ?'

3. Facts relating to this question are as follows. The assessee is a public limited company mainly engaged in the business of manufacture and sale of cement and asbestos products. It entered into an agreement with M/s. Revisione Construzione Machine of Tornio, Italy (hereinafter referred to as the 'suppliers'), on August 17, 1960, for supply of machinery for manufacture of asbestos cement products. Under the sub-title 'Delivery' of this agreement, the suppliers agreed to deliver the machinery as set out under the shipment plan and undertook to reimburse the assessee-company with compensation for delay in delivery. There was a delay in the supply of the machinery by the suppliers. The assessee-company, therefore, claimed compensation for the delay under the aforesaid term of the agreement. This claim for compensation made by the assessee-company was settled and under an agreement dated July 12, 1963, the suppliers agreed to pay lira 74,559,725 equivalent to Rs. 5,72,216, by way of compensation for the delay to the assessee-company would not pay lira 74,559,725 out of the price of the machines which it was liable to pay under the first agreement. In other words, the amount of compensation which was settled between the parties was to be adjusted against the cost of machinery agreed to be supplied by the suppliers. The question which arise for our consideration is whether as a result of the compensation agreed to be paid by the suppliers, the cost of machinery would stand reduced by the amount of compensation for the purpose of allowing depreciation and development rebate. The contention of the assessee-company before the ITO was that the amount of compensation of Rs. 5,72,216 (lira 74,559,725) did not in any way reduce the price of the machinery which it had agreed to purchase from the suppliers. In other words, according to the assessee-company, compensation paid to it for the delay in supply of machinery had no relation or connection with cost of machinery and, therefore, payment of such compensation would not reduce the cost or price of the machinery. The ITO, however, rejected this connection holding that the combined effet of the agreements dated August 17, 1960, and July 12, 1963, was that the price of the machinery stood reduced to the extent of Rs. 5,72,216. According to the ITO, the payment of compensation was incidental to the acquisition of machinery and such payment would in effect and substance reduce or decrease the price machinery. Consequently the ITO deducted Rs. 5,72,216 out of the total price of the machinery and allowed development rebate and depreciation on such reduced price treating it to be the actual cost of machinery. The AAC and the Tribunal have confirmed the view taken by the ITO.

4. In order to answer the question, which is referred to us, it is first necessary to understand the nature of the right of the assessee-company to receive compensation under the first and the main agreement dated August 17, 1960. Relevant portion of this agreement dated August 17, 1960, under the sub-title 'Delivery' reads as under :

'Delivery

The plant and equipment shall be derived as set out under shipment plan and the seller undertakes to reimburse the buyers with compensation for delay in delivery calculated at the rate of 0.25% per each week of delay. Under circumstances which are beyond the control of the seller such as, unavoidable, accidents, lock-outs, strikes, civil commotion and the like, the delivery period will be enhanced by the respective delay caused due to these factors but the seller shall inform immediately to the buyers both by cable as well as by letter about such happenings.'

5. It is clear from the above terms contained in the agreement that except for the circumstances beyond the control of the suppliers as mentioned therein, the suppliers were liable to pay compensation to the assessee-company for delay in the delivery of the machinery. The agreement also provided for the rate at which the compensation for delay was to be paid. The assessee-company is engaged in the business of manufacturing and selling cement and asbestos cement products. It had entered into the agreement with the suppliers for the purchase of machinery with the aid of which it was to manufacture asbestos cement products.

6. Now, what was the object of making a provision for compensation in the agreement Was it made with the intention of reducing the price as sought to be urged on behalf of the Revenue On a plain reading of the provision set out above, it is clear that it had no relation to the cost of machinery. It is pertinent to note that the above provision or terms finds place under the sub-title 'Delivery'. The subject which was dealt with under this sub-title as the sub-title indicates was 'Delivery of machinery' and it was in that context that the provision for compensation was made. Compensation was payable only in the case the machinery was not delivered as per the shipment plan. The assessee-company was incurring a large expenditure in setting up a new plant and machinery. It must, therefore, have made preparations and engaged staff for setting up the new project, keeping in mind the time schedule for the delivery of machinery. Having regard to the large investment involved, the assessee-company would naturally be interested in the installation of new machinery and plant at an early date to start production of the items for which the machinery was purchased. Any delay in the commencement of production would have resulted in a considerable loss to the assessee-company. Consequences of the delay in commencement production would be a loss profit which it would otherwise earn. At any rate it would constitute loss of interest on the blocked up capital asset which remained unutilised. It was in that context that the provision for a compensation for the delay in delivery was made in the agreement. It was to compensate the assessee-company for a loss, including the loss of profit, which it would suffer on account of a delay in the delivery of machinery that the above term is inserted in the agreement. The broad formula for working out such compensation is also prescribed by the terms adverted to above. As pointed out above, compensation was to be worked out at 0.25% per each week of delay. This reflects the pre-agreed estimate of loss and the method of working it out by the parties to the agreement. Thus, the agreement itself provide compensation or liquidated damages as per an agreed pre-estimation for the delay in supply of the machinery which the suppliers were liable to pay to the assessee-company. The terms providing for the compensation had no relation whatsoever with the cost of machinery.

7. subsequent agreement dated July 12, 1963, merely quantifies the damages which the suppliers had become liable to pay to the assessee-company as a result of the delay in supply of the machinery. Clause 2 of the said agreement on which strong reliance was placed on behalf of the Revenue reads as under :

'As per the provisions contained under the sub-title 'Delivery' of the agreement dated 17-8-1960, the suppliers agree that the buyers shall not pay the amount of lira 74,559,725 (lira seventy-four million five hundred and fifty-nine thousand seven hundred and twenty-five) only in the cost of machinery supplied by them as they could not ship the machinery on the scheduled dates.'

8. It appears that the suppliers and the assessee-company had settled compensation payable for the delay in delivery of the machinery at lira 74,559,725 (Rs. 5,72,216). Clause 2 set out above merely provides for the manner in which the amount of compensation agreed to be paid by the suppliers was to be paid. It provided that out of the total price of machinery payable by the assessee-company, lira 74,559,725 were not to be paid. In other words, compensation payable by the suppliers was adjusted against the price or balance of price of the machinery payable by the assessee-company. We are, however unable to see any force in the argument that the adjustment made in the above manner reduces the price or cost of the machinery. The argument only reflects an incorrect reading of the relevant terms of both the agreements. Clause 2 of the agreement dated July 12, 1963, cannot be read in isolation. It has to be read along with the provisions under the sub-title 'Delivery' contained in the agreement dated August 17, 1960, adverted to above. If the relevant terms of both the agreements are read together, it leaves no room for the doubt that lira 74,559,725 which the suppliers had agreed to pay to the assessee-company was nothing but a compensation for the delay in supply of machinery. It is true that this compensation was to be adjusted against the price payable by the assessee-company to the suppliers, but that was only a convenient mode adopted by the parties for the payment of compensation. The assessee-company had, it appears, remitted various amounts by bank drafts towards the price of the machinery as stated in Clause 2 of the agreement dated July 12, 1963, and it was agreed between the parties that the bank drafts for the total amount of lira 74,559,725 were to be returned without encashing them. In other words, the assessee-company was to receive the compensation of lira 74,559,725 by not paying the cost or price of the machinery to that extent to the suppliers. However, the method adopted by the assessee-company in receiving the compensation does not change the nature or character of the amount of lira 74,559,725. Though adjusted against the price of the machinery it was none the less compensation.

9. Learned counsel for the revenue strongly relied on a decision of the Chancery Division in Crabb (H.M. Inspector of Taxes) v. Blue Star Line Ltd. [1961] 39 TC 482, in support of his contention that receipt of lira 74,559,725 by the assessee-company brought about nothing but reduction in the price of the machinery. That was a case in which the respondent company carried on business of shipowners, and in respect of seven new ships, ordered as replacement of their fleet, effected policies of insurance which provided, inter alia, for the payment of a fixed daily sum if delivery of a ship was delayed by accident more than 14 days beyond the due delivery date under the contract. Under the relevant contracts, it was stipulated that if the shipbuilders did not deliver within 14 days after the due date of delivery, the purchase price would be reduced by pound 500 a day over a period of time. Two of the ships were delivered late and the company received the sums payable under the policies relating to those ships. On appeal against an assessment to income-tax for the year 1955-56, the Special Commissioners held that the amount received and the premiums paid were receipts and payments of a capital nature and should be excluded from the computation of the loss incurred by the company which were carried forwards to that year. The Chancery Division upheld the decision of the special Commissioners. Buckley J., who delivered the judgment of the court, observed (p. 492) :

'.... on the true view of this case, the sums secured by these policies are not in essence compensation for loss of profits, although, of course, in a sense they are associated with the fact that if due delivery is not made, the company would be deprived of profits if it then wished to take the ships into service in its business. I think they are really associated with the price which the company felt justified in paying for the services which the shipbuilders were contracting to give, and were insurances against the possibility of the shipbuilders not providing as valuable services as by the contract they were promising to provide.'

10. It is clear that the aforesaid decision is hemmed in by its own facts. In view of the clear provision that the price would stand reduced by pound 500 a day, there was no scope for the other view. The wording of the relevant clause played a key role in the interpretation. In the instant case, the wording of the relevant clause leads to the conclusion that it was a payment as compensation and not for depressing the cost. The aspect which is not considered by Buckley J. is the aspect regarding the blocking of capital and the mounting up of the interest burden attendant on a late delivery. It would result in a huge loss on account of a delay in the delivery of ships. It is not merely a question of loss of profit. It is a question of certain loss by way of increase in the burden of interest and overheads. Therefore, really speaking, delivery at zero hour has significance from the standpoint of saving from loss. And what is paid is compensation of damages in this context. As in its view the amount received by the respondent-company was associated with the price and not loss of profits, the Chancery Division took the view that the receipt was of a capital nature and should be excluded from a computation of the losses incurred by the respondent-company. In the instant case there is so similar clause. In fact, as discussed above, what the assessee-company received from the supplier was nothing but compensation for the loss of profits. Payments of compensation was not associated with the price but to damages. In our opinion, therefore, the decision of the Chancery Division which was rendered in the peculiar facts obtaining in the case before it, would be of no assistance to the revenue.

11. We are, therefore, unable to see any force in the argument advanced on behalf of the revenue that the payment of lira 74,559,725 reduced the price or cost of machinery purchased by the assessee-company. No other conclusion can be reached by reading the relevant terms of the aforesaid two agreements. In the view which we are taking it is unnecessary to enter into any discussion about the actual cost of the machinery within the meaning of s. 43(1) of the I.T. Act, 1961 (hereinafter referred to as 'the Act'). Several decisions had been cited before us on the question as to what meaning should be given to the expression 'actual cost'. In the instant case, there is no controversy regarding the meaning of the expression 'actual cost'. The whole controversy centers round the construction to be placed upon the terms providing for the compensation contained in the two agreements adverted to above and their effect on the actual cost of the machinery. The decisions on the question of actual cost cited before us are not of any assistance in resolving this controversy and, therefore we do not think it necessary to refer to them or discuss them. 'Actual cost' as defined in s. 43(1) means the actual cost of the assets to the assessee reduced by that portion of the cost thereof, if any as has been met directly or indirectly by any other person or authority. The actual cost of the machinery to the assessee-company is the price at which it agreed to purchase the machinery or plant, and this price was paid by the assessee-company, subject to the adjustment of compensation payable to it for delay as stated above. There is no dispute as to what the actual cost of the machinery is, but the dispute is whether the compensation received by the assessee-company goes to reduce the cost of machinery. Actual cost or price of the machinery and compensation payable to the assessee-company for delay in delivery are two different and distinct things. By unnecessarily mixing up the actual cost with the compensation, a confusion has been created by the Revenue authorities and the Tribunal. As observed above, the compensation for delay has nothing to do with the cost of the machinery. Compensation was paid to set off or reduce the loss which the assessee-company suffered as a result of the delay in the supply of machinery. It was a revenue loss which was sought to be mitigated or wiped out be the term regarding compensation. We, therefore, find ourselves unable to accept the argument that the compensation received by the assessee-company reduced the cost of machinery. The Tribunal was, therefore, in error in holding that the actual cost of machinery has to be reduced by the amount of compensation paid by the suppliers to the assessee-company for the purpose of calculating depreciation and development rebate. Compensation paid for the delay in delivery would not tend to reduce the cost of machinery for the purpose of calculating depreciation and development rebate. Depreciation or development rebate shall have to be allowed on the entire cost of machinery as per the agreement. Mr. S. P. Mehta, learned counsel for the assessee-company conceded that lira 74,559,725= Rs. 5,72,216 would be revenue receipt in the assessment years 1963-64. In other words, Mr. Mehta conceded that Rs. 5,72,216 represented the assessee-company's income earned in the year account relevant to the assessment year 1963-64. In view of the concession made by Mr. Mehta, the question whether the receipt of Rs. 5,72,216 was a capital receipt or a trading receipt, does not survive. It may be pointed out that in the view which it took the Tribunal did not consider the question whether the amount of compensation which the assessee-company received would form a capital receipt or a trading receipt. Since, in our opinion, the amount of compensation received by the assessee-company does not go to reduce the cost of machinery, ordinarily, we should have remitted the matter to the Tribunal for deciding the aforesaid question which was not decided by the Tribunal but in view of the concession made by Mr. Mehta, it is not necessary to do so Receipt of Rs. 5,72,216 shall be treated as trading receipt and it will be assessed to tax in the assessment year 1963-64. In the light of the above discussion, question No. 1 answered in the negative and against the Revenue.

12. This takes us to the second question, which reads as under :

'Whether, on the facts and in the circumstances of the case, the Tribunal was justified in not allowing the total amount of interest paid, on borrowings made by the company from the business income ?'

13. The assessee-company had made investment in shares of the West Coast Paper Mills Ltd. (hereinafter referred to as 'WCPM'). The investment amounted to Rs. 75.60 lakhs. The assessee-company had borrowed funds in overdraft accounts with its bankers. These overdrafts were secured by pledge of the shares of WCPM. The assessee-company paid interest on the borrowings and claimed its deduction as business expenditure in each of the two years under reference, that is, asessment years 1963-64 1970-71. The ITO however, disallowed this claim. Disallowance of interest varied between Rs. 1,54,503 in the assessment year 1963-64, and Rs. 2,12,330 in the assessment year 1970-71, in the eight years under consideration. In the appeal referred by the assessee-company, the AAC held that our of total investment of Rs. 75.60 lakhs in WCPM shares, an amount of Rs. 27.50 lakhs had been borrowed from the bank for the purpose of acquiring the shares in WCPM. In his view, the interest attributable to the said amount of Rs. 27.50 lakhs was liable to be deducted from the dividend income. The balance of interest paid on overdraft on the security of the shares in WCPM was allowed as business expenditure. The Tribunal confirmed the view taken by the AAC observing as follows :

'We have carefully considered the rival submissions. So far as the first point raised by Shri Mehta is concerned, viz., that the business of the assessee had its subsidiary should be treated as assessee's own business and that the income from dividend, though assessable under the head 'Other sources of income', should be considered as business source, we are unable to persuade ourselves to agree with this point of view; firstly because, in the assessment year 1957-58, when the question had come up for consideration regarding disallowance of interest of Rs. 23,459 in respect of loans taken by the assessee-company for the purchase or investment in shares of the West Coast company, the assessee had not challenged the decision of the AAC, in which the decision of the ITO was upheld, viz., that the deduction in respect of interest was not allowance under s. 10(2) of the Act, but had to be allowed under s. 12(2) of the Act of 1922. We, therefore, think that it is too late in the day now to contend that the apportionment of interest should not be made between the income from business and income from dividend.'

14. What was the treatment given to the interest payment in the past cannot preclude the assessee-company from contending that the entire interest payment was deductible from its business income in the years under reference. It was submitted that in the past, having regard to the tax effect, the assessee-company did not consider it advisable to agitate the above question in further appeal to the Tribunal and accepted the decision of the AAC upholding the view taken by the ITO. There is, however, no bar of res judicata or estoppel against the raising of the above contention. The learned counsel for the revenue also did not contend that it is not open to the assessee-company to claim that the entire interest paid was deductible as business expenditure in the years under reference. We, therefore, do not propose to deal with this question at length. Suffice it to say that the approach of the Tribunal in rejecting the assessee-company's claim in the manner it has done is not correct. The Tribunal ought to have examined the assessee's claim on merits and given its considered decision after taking into account all the relevant facts and material instead of summarily rejecting the claim on the basis of what had happened in the past.

15. In order to appreciate the contention of the assessee-company, it is necessary to set out the statement showing details of overdraft against the shares, investments in the equity shares of WCPM and the depreciation and reserves :

Overdraft against sharesYears Opening Closing Increase/DecreaseRs. Rs. Rs.1955 --- --- ---1956 --- 14,85,942 + 14,85,9421957 14,85,942 14,46,345 (-) 39,5971958 14,46,345 22,18,020 + 7,71,6751959 22,18,020 43,68,877 + 21,50,857_____________________43,68,877_____________________Investment in WCPM Equity SharesYears Opening Closing Increase/DecreaseRs. Rs. Rs.1955 --- 23,50,000 + 23,50,0001956 23,50,000 38,99,037 + 15,49,0371957 38,99,037 51,97,788 + 12,98,7511958 51,97,788 51,97,788 ---1959 51,97,788 76,94,048 + 24,96,260________________76,94,048Less : Realisation (net) from 1960 to 1962 (-) 44,522________________76,49,526________________Depreciation and ReserveYears Opening Closing Increase/DecreaseRs. Rs. Rs.1955 1,07,30,168 1,43,42,010 + 36,11,8421956 1,43,42,010 1,51,15,105 + 7,73,0951957 1,51,15,105 1,80,35,301 + 29,20,1961958 1,80,35,301 1,98,39,733 + 18,04,4321959 1,98,39,733 2,15,70,658 + 17,30,925______________1,08,40,490______________

16. It would appear from the above statement that the total investment made in the years 1955 to 1959 was Rs. 76,94,048, whereas the retained earnings were Rs. 1,08,40,490. Investment in WCPM equity shares were made mainly in 1955, 1956, 1957, and 1959. In 1955, the company had no borrowings. It is therefore, obvious that the investment in WCPM shares in the year 1955 had come from its own resources. It further appears that in the beginning of 1956, the following liquid funds were available with the company :

Rs.Call deposit with banks 9,00,000In current a/c with banks 2,24,622________________Total 11,24,622________________

17. In the year 1956, the company sold its investments in debentures of Rs. 1,92,000. Payment for the WCPM shares in 1956 was made before the company opened the overdraft account against the pledge of shares, which was made in March and September, 1956, from the current account with the United Commercial Bank and the assessee-company withdrew funds from the State Bank of Saurashtra in October, 1956. It was, therefore, contended that the investment in 1956 also came out of the internal resources. In the year 1956, the company said its holdings of its preference shares of Rs. 6 lakhs. These preference shares were acquired in the year 1955 when there wereno borrowings. Borrowings in overdraft account with the State Bank of Saurashtra which were the only borrowings in that year against the shares amounted to Rs. 14,85,942 at the end of 1956, and Rs. 14,46,345 at the end of 1957. It was, therefore, contended that the investments in shares were not made out of moneys borrowed in overdraft account in 1957 also. In July, 1959, the assessee-company received a repayment of Rs. 16 lakhs from the WCPM and the said amount was deposited in the United Commercial Bank and utilised in the payment for WCPM shares. In 1959, another payment for WCPM shares was also made by the assessee-company from its account with the United Commercial Bank. Amount was deposited in the United Commercial Bank from overdraft account against the shares with the State Bank of Jaipur Ltd. In 1962, i.e., assessment year 1963-64, and onwards, no interest was paid to the State Bank of Jaipur. Having regard to the above state facts it is contended that a deduction of the entire interest payment should be allowed against the business income.

18. One thing which clearly emerges from the material on record is that there is no warrant to reach the conclusion that any specific part of the borrowings is attributable to the investment in the shares of WCPM. In other words, no part of the borrowings can be linked with the investment in the shares. Investment in the shares is made out of the business funds. The statement set out hereinabove shows that retained earnings were available for the investment in shares. No borrowings were made in 1955. Therefore, the investment to the extent of Rs. 23.50 lakhs in the shares of WCPM in that year must have been made from the assessee-company's own resources. Borrowings were made in the subsequent years but there is no evidence to show that any part of the borrowings was directly utilised for the investment in shares. It is not in dispute that the overdraft accounts with the bank were secured by a pledge of the shares of WCPM and that the moneys which the assessee-company borrowed against the security of the shares in WCPM were utilised for its business. Interest paid on overdraft accounts had in fact been allowed as a deduction while computing the business profits of the assessee-company. What has been disallowed is the interest paid on borrowings attributable to the investments in shares. The Bombay High Court in the case of CIT v. Jagmohandas J. Kapadia : [1966]61ITR663(Bom) , held that the interest paid towards the general balance in the overdraft account of a person carrying on business as a share and stock broker, who had income falling under the head 'Business', 'Interest on securities' and 'Dividends', cannot be deducted from the income from dividends, but only from the business income, inasmuch as under the special provisions contained in s. 12(2) of the Indian I.T. Act, 1922, only an expenditure incurred solely for the purpose of earning such dividend income can be deducted from the income from dividend. Section 57 provides for deductions which are to be made while computing the income under the head 'Income from other sources', which includes income from dividends. Clauses (i) and (ii) of s. 57 are not relevant for our purpose. Under clause (iii) of s. 57 'any other expenditure (not being in the nature of capital expenditure) laid out or expended wholly and exclusively for the purpose of making or earning such income', is allowable as a deduction. In other words, only such expenditure as is incurred in making or earning income under the head 'Income from other sources' is allowed as deduction. Therefore, unless it is established that the payment of interest has a direct nexus with the earning of the income by way of dividend, the interest paid cannot be deducted under s. 57(iii). In the instant case, the assessee-company has not proved to have invested in the shares out of the borrowings. In other words, no nexus between the investment in shares and the borrowings is established. But apart from that, the assessee-company had sufficient internal resources from which such investment could have been made by it. Again, the shares have been actually utilised for the purpose of business. Overdraft account was opened against the security of shares. Interest paid on overdrafts has in fact been allowed as a deduction. At the cost of repetition, it may be stated that no part of the borrowings is specifically attributable to the investment in shares. There was a common fund in respect of the borrowings and the retained earnings and it was out of the mixed funds that the investment in shares was made in the years subsequent to the calendar year 1955. No expenditure by way of payment of interest could be said to have been incurred for making or earning income by way of dividend. There is, therefore, no reason why the interest payment should not be allowed as a deduction while computing the profits and gains from the business. In this connection, it is also important to refer to a decision of the Andhra Pradesh High Court in CIT v. Gopikrishna Muralidhar : [1963]47ITR469(AP) . That was a case in which the assessee, an HUF, which carried on business on an extensive scale with a capital of about of Rs. 20 lakhs, made large borrowings during the relevant year for the purpose of the business and paid interest amounting to Rs. 93,611. In the course of the year, moneys amounting to Rs. 1,77,984 were withdrawn from time to time for the household expenses. The question was whether a part of the interest paid on borrowed capital could be disallowed. It was held by the Andhra Pradesh High Court that as the amounts were borrowed for the purpose of the business of the family and as no particular sum purporting to be borrowed on behalf of the business was spent for household expenses and the family was entitled to withdraw from the capital supplied by it thereby depleting the capital, the fact that part of the amounts borrowed was later on used for personal expenses did not deprive the assessee of the benefit of a deduction of the entire interest paid on the borrowed capital under s. 10(2)(iii) of the Indian I.T. Act 1922, and a part of the interest could not, therefore, be disallowed. We respectfully agree with this view of the Andhra Pradesh High Court. In the instant case also, no part of the borrowings could be specifically attributed to the investment in shares. Consequently no part of the interest paid on the borrowings can be disallowed while computing the business income of the assessee-company. In our opinion, the Tribunal was not justified in not allowing the entire interest payment on the borrowings as a deduction while computing the assessee-company's business income. We, therefore, answer question No. 2 in the negative and against the Revenue. In the view which we are taking the following two questions, namely, questions Nos. (3) and (4) are also answered in the negative and against the Revenue :

19. Question No. 3.

'Whether, on the facts and in the circumstances of the case, the Tribunal was justified in upholding the bifurcation of the amount of interest for the purpose of allowing the same partly against the business income and partly against dividend income ?'

20. Question No. 4.

'Whether, on the facts and in the circumstances of the case, the Tribunal was justified in holding that it was not open to the company to contend that the entire investment could be said to have come out of the internal resources and not out of the borrowed funds ?'

21. Question No. 5, which is referred to us reads as under :

'Whether the Tribunal was justified in law holding that relief under section 99(1)(iv)/85A of the Act as it stood for the assessment years 1963-64 and 1964-65 or under section 85A of the Act as it stood for the assessments year 1965-66, 1966-67 and 1967-68 or under provisions of section 80M as it stood for the assessment years 1968-69 to 1970-71 should be with reference to the net amount of dividend after deduction of interest and not with reference to the gross dividend as claimed by it was correct ?'

22. This question arises in all the assessment years, namely, assessment years 1963-64 to 1970-71. So far as the asessment years 1963-64 to 1967-68 are concerned, it is directly covered by the decision of the Supreme Court in Cloth Traders (P.) Ltd v. Addl. CIT : [1979]118ITR243(SC) . Therefore, so far as these years, namely, the assessment years 1963-64 to 1967-68 are concerned the answer to this question shall have to be in the negative and against the Revenue. Now, so far as the assessment years 1968-69 to 1970-71 are concerned, as held by this court in Gaekwad Investment Corporation Ltd. v. CIT (ITR NO. 11 of 1976 decided on February 6, 1981 [See p. 61 infra-Appendix], in view of the retrospective amendment, the net dividend income will be entitled to relief under s. 80M and not the gross dividend income. Therefore, so far as these years are concerned, following the decision of this court in Gaekwad Investment Corporation Ltd., the answer to the question shall have to be in the affirmative and against the assessee.

23. This brings us to question No. 6 which is in the following terms :

'Whether, on the facts and in the circumstances of the case, the Tribunal was justified in holding that the expenditure of Rs. 11,815 incurred on issue of new shares of the company was not revenue expenditure ?'

24. The assessee-company incurred an expenditure of Rs. 11,815 for the issue of rights shares and claimed deduction of the said expenditure as a business expenditure. According to the assessee, the expenditure was incurred for procuring finance for the purpose of its business and, therefore, it was allowable as a business expenditure in the light of the decisions of the Supreme Court in India Cements Ltd. v. CIT [1961] 60 ITR 52 and Bombay Steam Navigation Co. (1953) P. Ltd v. CIT : [1965]56ITR52(SC) . The ITO, AAC and the Tribunal rejected the claim and held that the expenditure was of a capital nature. The Tribunal held that the expenditure was related to the profit-earning structure of the assessee-company and could not, therefore, be regarded as an integral part of the profit earning process. In its view, therefore, the expenditure was capital in nature. The shares issued by the assessee-company constitute its capital. These shares are an integral part of the permanent structure of the company and are not in any manner connected with the working capital of the company which is utilised to carry on the day to day operations of the business. Therefore, as held by the Allahabad High Court in Upper Doab Sugar Mills Ltd. v. CIT : [1979]116ITR928(All) , the expenditure incurred in connection with the issue of rights shares is not a revenue expenditure. Consequently, it cannot be claimed as deductible from the business income. Similar, view was taken by the Himachal Pradesh High Court in Mohan Meakin Breweries Ltd. v. CIT (No. 2) [1979] 117 ITR 505 and the Calcutta High Court in Hindustan Gas and Industries Ltd. v. CIT : [1979]117ITR549(Cal) . Since we are in respectful agreement with the view taken by the Allahabad High Court we need not enter into any elaborate discussion of the arguments advanced before us. We hold that the expenditure incurred being of a capital nature, it cannot be allowed as a deduction in the computation of the business income of the assessee. In our opinion, therefore, the Tribunal was justified in not allowing the expenditure of Rs. 11,815 as a revenue expenditure. Question No. 6 is, therefore, answered in the affirmative and against the assessee.

25. Question No. 7, set out below, was not pressed by Mr. S. P. Mehta, learned counsel for the assessee, and, therefore, it need not be answered.

26. Question No. 7 :

'Whether, on the facts and in the circumstances of the case, the Tribunal was right in holding that sum of Rs. 38,158 was not deductible ?'

27. Reference answered accordingly with no order as to costs.


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