Expenditure on registration of lease agreement is allowable as revenue expenditure

ITAT BANGALORE BENCH ‘C’

Deputy Commissioner of Income-tax

versus

Columbia Asia Hospitals (P.) Ltd.

IT Appeal Nos. 1146 (Bang.) of 2011 & 449 (Bang.) of 2012
[ASSESSMENT YEARS 2007-08 & 2008-09]

FEBRUARY 15, 2013

ORDER

Jason P. Boaz, Accountant Member

These two appeals by revenue are directed against the orders of Commissioner of Income Tax (Appeals)-II, Bangalore for Assessment Year 2007-08 and 2008-09 dt.18.1.2012 and 5.9.2011 respectively. As these appeals were heard together, they are being disposed off together by this consolidated order.

ITA No.449/Bang/2012 (A.Y. 2007-08)

2. The facts of the case, in brief, in respect of this appeal are as under :

2.1 The assessee, a leading hospital in the city, filed its return of income for Assessment Year 2007-08 on 31.10.2007 declaring loss of Rs. 8,71,58,141. The return was processed under section 143(1) of the Income-tax Act, 1961 (hereinafter referred to as ‘the Act’) and was subsequently taken up for scrutiny by issue of notice under section 143(2) of the Act. The Assessing Officer completed the assessment by an order under section 143(3) of the Act on 21.12.2009 determining the loss of the assessee at Rs. 7,27,79,693 by making the following disallowances.

2.2 Aggrieved by the order of assessment for Assessment Year 2007-08 dt.21.12.2009, the assessee went in appeal before the learned CIT (Appeals). The learned CIT (Appeals) disposed off the assessee’s appeal by order dt.18.1.2012 wherein the assessee’s grounds raised in respect of the disallowances made at S.No.(i) and (v) were upheld; the disallowance at S.No.(iv) was deleted. In respect of the disallowance made at (iii) above deduction under section 35D of the Act was allowed to the extent of Rs.18,67,207. The disallowance made by the Assessing Officer at S.No.(ii) above was accepted and not agitated by the assessee before the learned CIT (Appeals). In sum and substance, the assessee was allowed partial relief by the learned CIT (Appeals) in its appeal for Assessment Year 2007-08.

3. Aggrieved by the order of the learned CIT(Appeals), revenue is now in appeal before us in which it has raised the following grounds :

” 1. The order of the CIT (Appeals) is opposed to the facts of the case.

2. The learned CIT (Appeals) has erred in concluding that the items of expenditure of Rs.93,36,039 are in connection with expansion of business.

3. The learned CIT (Appeals) has erred in not upholding the Assessing Officer’s action of treating the amount of Rs.93,36,039 as capital expenditure.

4. The learned CIT (Appeals) erred in allowing the expenditure of Rs.93,36,039 over 5 years as provided under section 35D of the Income-tax Act, 1961.

5. The learned CIT (Appeals) has erred in treating the expenditure of Rs.19,21,000 on taking leased property as business expenditure relying on the decision of Karnataka High Court in the case of CIT v. H.M.T. Ltd. reported in 203 ITR 820.

6. For these and such other grounds that may be urged at the time of hearing the appeal, the order of the learned CIT (Appeals) may be set aside and that the order of the Assessing Officer may be restored.”

4. On perusal, we find that the grounds raised at S.Nos.1 and 6 above, are general in nature and therefore no adjudication is called for thereon.

5.1 In the grounds raised at S.Nos.2 to 4 above, revenue contends that the findings of the learned CIT(Appeals) holding that items of expenditure amounting to Rs.93,36,039 were expended in connection with the expansion of the assessee’s business and in allowing deduction of this expenditure under section 35D over a period of 5 years was erroneous. The learned Departmental Representative reiterated the arguments put forth in the grounds raised and pleaded that the order of the learned CIT(Appeals) be reversed and that the finding of the Assessing Officer that the said expenditure was capital in nature be restored.

5.2 Per contra, the learned counsel for the assessee supported the finding in the order of the learned CIT(Appeals) on this issue.

5.3.1 We have heard both sides and have perused and carefully considered the material on record and the orders of the authorities below. In the course of assessment proceedings the Assessing Officer noticed that the assessee had incurred expenditure towards professional fees paid to various advocates and law firms and such other expenses amounting to Rs.95,66,039 which are listed out at pages 4 to 7 of the order of assessment. On examination thereof the Assessing Officer was of the view that out of the total amount of Rs.95,66,039 except for expenditure amounting to Rs.2,80,000 which he held to be revenue in nature, the remaining portion related directly to the acquisition of capital assets; were not in the nature of preparation of feasibility reports or market surveys and hence were classified as capital expenditure and disallowed by the Assessing Officer.

5.3.2 After having held that these expenditures to the extent of Rs.93,36,039 were capital in nature and disallowing the same, the Assessing Officer rejected the assessee’s claim for deduction of 1/5th of the said expenditure under section 35D of the Act, imposed a condition that if any of the appellate authorities were to hold the said expenditure as revenue in nature, these expenditures are protectively held as attracted under section 35D of the Act and accordingly a deduction thereon of 1/5th viz. Rs.18,67,207 out of Rs.93,36,939 is to be allowed and the amount of Rs.74,68,831 be allowed in the future years.

5.3.3 The learned CIT(Appeals), after examining the items of expenditure, came to the conclusion that these expenses are incurred in connection with expansion of business and hence are covered under section 35D of the Act thereby allowing the assessee 1/5th of the said expenditure of Rs.18,68,208 in the current year with the direction that the remaining expenditure of Rs.74,68,831 is to be allowed equally in the next four assessment years.

5.3.4 On careful consideration of the submissions made and the factual matrix of the issue as laid out above and perusal of the provisions of section 35D of the Act, it is seen that section 35D(1) of the Act relating to amortization of certain preliminary expenses, allows deduction for expenditure incurred.

(i) before the commencement of business; or

(ii) after the commencement of business, in connection with the extension of his undertaking or in connection with his setting up of a new unit.

Section 35D(2) specifies the expenditures that are eligible for deduction under this section, namely (a) expenditure incurred for,

(i) Preparation of feasibility report;

(ii) preparation of project report;

(iii) conducting market survey or any other survey necessary for the business of the assessee;

(iv) engineering services relating to the business of the assessee;

(b) legal charges for drafting any agreement between the assessee and any other person for any purpose relating to the setting up or conduct of the business of the assessee;

(c) where the assessee is a company, also expenditure –

(i) by way of legal charges for drafting the Memorandum and Articles of Association of the company;

(ii) on printing of the Memorandum and Articles of Association;

(iii) by way of fees for registering the company under the provisions of the Companies Act, 1956.

(iv) in connection with the issue, for public subscription, of shares in or debentures of the company, being underwriting commission, brokerage, and charges for drafting, typing, printing and advertisement of the prospectus;

(d) Such other items (not being expenditure eligible for any allowance or deduction under any other provision of this Act) as may be prescribed.

As per the scheme of deduction laid out under section 35D of the Act, the concerned expenditure to be eligible for deduction should qualify the alternate condition stipulated in section 35D(1) and should be one of the items of expenditure specified in section 35D(2). In the present case, evidently the expenses have been incurred after the commencement of business and therefore in order to qualify for deduction under section 35D of the Act, the expenses have to be incurred in connection with the extension of the undertaking or in connection with the setting up of a new unit. As can be seen from the detailed breakup of the expenditure in question at pages 4 to 7 of the order of assessment, these expenses are, essentially towards payment of professional fees related to acquisition of land for setting up of hospitals. As the assessee is already in the business of running hospitals, the expenditure related to setting up of new hospitals are ostensibly only for expansion of the existing business of the assessee. We are therefore of the view that the condition stipulated in section 35D(1) of the Act is satisfied. Further, we also find that since the expenditure in question are mainly professional fees paid to advocates and legal firms, which are related to the expansion of the assessee’s existing business of running hospitals, the condition stipulated in section 35D(2) of the Act is also satisfied. In this view of the matter, we concur with the finding of the learned CIT(Appeals) that the expenditure in question qualifies for deduction under section 35D of the Act and therefore direct the Assessing Officer that this expenditure amounting to Rs.93,36,039 be allowed as a deduction equally over a period of five years as provided under section 35D of the Act. We, therefore, dismiss grounds raised at S.Nos.2 to 4 above by revenue.

6.1 In the grounds raised at S.No.5, revenue contends that the learned CIT (Appeals) erred in treating the expenditure of Rs.19,21,000 on taking leased property as business expenditure by relying on the decision of the Hon’ble Karnataka High Court in the case of CIT v. H.M.T Ltd. [1993] 203 ITR 820.

6.2 The assessee, in the relevant period, has incurred an expenditure of Rs.19,60,000 and Rs.2,32,000 towards registration of the building that it had taken on long lease (viz. for an initial period of 5 plus 5 years which was renewable for further periods of 5 years six times) for its hospital at Bellary Road, Near Hebbal Flyover, Bangalore vide lease deed dt.29.6.2006 and claimed as these lease rent charges as revenue expenses. The Assessing Officer did not accept the claim of the assessee that these expenses were revenue in nature. On the contrary, the Assessing Officer held that, in view of the long period of 40 years for which the lease would run, the said expenditure was capital in nature and allowed depreciation of Rs.2,19,000 thereon.

6.3 The learned CIT(Appeals) relying on the decision of the Hon’ble Karnataka High Court in the case of H.M.T. Ltd. (supra), held that this expenditure of Rs.21,90,000 are allowable as a business expenditure without elaborating on the reasons for her finding.

6.4 The learned counsel for the assessee supported the findings in the orders of the learned CIT(Appeals) on this issue inter alia placing reliance on the decision in the case of H.M.T. Ltd. (supra) and sought the dismissal of the grounds raised by revenue.

6.5 We have heard both parties, carefully perused, considered the material on record and the judicial decisions relied on by the learned CIT (Appeals) and the assessee. In order to appreciate the respective contentions, it is necessary to examine the nature of the transaction. It is not disputed by revenue that the said lease agreement dt.29.6.2006 entered into by the assessee give rise to a lease in favour of the assessee and no other legal rights in the hospital building are granted to the assessee. As such, the view of the Assessing Officer that the said lease agreement brings into existence an asset of enduring nature is, in our opinion, misplaced. The Hon’ble Apex Court in the case of Empire Jute Co. Ltd. v. CIT [1980] 124 ITR 1 has laid down certain guidelines to determine whether, in a given case, the expenditure incurred is in the nature of revenue or capital expenditure. The Hon’ble Karnataka High Court in the case of H.M.T. Ltd. (supra) has referred to this decision of the Hon’ble Apex Court to hold that expenditure related to lease arrangement is in the nature of advance rent and the premium was allowable as business/revenue expenditure. We are, therefore, of the considered opinion that the reliance placed by the learned CIT(Appeals) on the decision of the jurisdictional High Court in the case of H.M.T. Ltd. (supra) on this issue is in order and finding no reason to interfere therein, uphold the finding of the learned CIT(Appeals). Consequently, the ground raised by revenue is dismissed.

7. In the result, Revenue’s appeal for Assessment Year 2007-08 is dismissed.

ITA No.1146/Bang/2011 for Assessment Year 2008-09 .

8. The facts of the case, in brief, are as under :

8.1 The assessee, a leading hospital in Bangalore, filed its return of income for Assessment Year 2008-09 on 29.9.2008 declaring a loss of Rs.7,20,80,875. The return was processed under section 143(1) of the Act, and the case was subsequently taken up for scrutiny by issue of notice under section 143(2) of the Act. A survey under section 133A of the Act was conducted at the business premises of the assessee on 13.9.2010. The assessment was completed by an order under section 143(3) of the Act on 30.12.2010 determining the loss of the assessee at Rs. 5,90,88,701 by making the following disallowances :