Expenditure incurred during interval period of setting up of a new business & its commencement can be allowed as deduction

Messung Systems Private Limited Vs ITO (ITA Pune)

Expenditure incurred during interval period of setting up of a new business and its commencement can be allowed as deduction

The ITAT, Pune in Messung Systems Private Limited v. ITO [ITA No.683/PUN/2018 dated November 7, 2022] partly allowed the appeal of the assessee against the order passed by the Revenue Department holding that the expenses incurred for pre- operative nature cannot be set-off against the interest income. Held that, expenditure incurred by a company during the setting up of new business and its commencement can be allowed as deduction.

Facts:

Messung Systems Private Limited (“the Appellant”) is engaged in the business of trading of Programmable Logic Controllers (“PLC”) and parts thereof. The return of income of the Appellant for the Assessment Year (“A.Y.”) 2014-15 was filed on September 30, 2014 declaring total income of INR 27,83,430/-.  During the immediate preceding year i.e. Financial year (“F.Y.”) 2012-13, the Appellant sold its entire business and thus was in the process of setting up a new business.

During, setting up of new business the Appellant incurred certain expenditure and also earned interest income on Fixed Deposits (“FDs”). The Appellant claimed the set-off of the expenses incurred against the interest income. The Assessing officer (“A.O.”) was of the opinion that the setting up of expenses incurred for pre-operative nature cannot be set-off against the interest income and thus vide an order dated November 29, 2016 passed under Section 143(3) of the Income Tax Act, 1961 (“the IT Act”), brought to tax the interest income of Rs.2,21,92,972/- under the head “Income from other sources”.

Subsequently, the Appellant filed an appeal before the Commissioner of Income Tax (Appeals) (“CIT(A)”) contending that the expenditure incurred between the setting up of the business and commencement of the business are allowable as revenue expenditure and such loss be allowed to set-off against the income assessed under the head “Income from other sources”. However, the same was rejected by the CIT(A) on the ground that the expenses incurred by the Appellant are pre-operative expenses and thus are not allowable as deduction.

Hence, this appeal has been filed.

Issue:

Whether the expenses incurred by the Appellant are pre-operative expenses and are allowable as deduction?

Held:

The ITAT, Pune in ITA No.683/PUN/2018 held as under:

• Observed that, the A.O. and CIT(A) simply discussed the legal principle without adverting to the material facts on record and had not really decided whether the Appellant had set-up and ready to commence the business or not.
• Noted that, the A.O. and CIT(A) had failed to examine the nexus of the expenditure incurred and the new business which is stated to have been set-up.
• Opined that, the matter requires remission to the file of the A.O. to decide the issue in appeal with reference to the material on record whether the appellant company had set-up a new business or not.
• Held that, the expenditure incurred during the interval period of setting up of a new business and its commencement of business can be allowed as deduction. Thus, the matter was remitted back to the A.O. 

FULL TEXT OF THE ORDER OF ITAT PUNE

This is an appeal filed by the assessee directed against the order of ld. Commissioner of Income Tax (Appeals)-7, Pune [‘the CIT(A)’] dated 15.02.2018 for the assessment year 2014-15.

2. Briefly, the facts of the case are that the appellant is a company incorporated under the provisions of the Companies Act, 1956. It is engaged in the business of trading of Programmable Logic Controllers (PLC) and parts thereof. The return of income for the assessment year 2014-15 was filed on 30.09.2014 declaring total income of Rs.27,83,430/-. Against the said return of income, the assessment was completed by the Income Tax Officer, Ward-14(4), Pune (‘the Assessing Officer’) vide order dated 29.11.2016 passed u/s 143(3) of the Income Tax Act, 1961 (‘the Act’) at a total income of Rs.2,21,92,970/-. The disparity between the retuned income and assessed income is on account of not allowing the business loss incurred on account of expenditure incurred from the date of set-off of the business against the interest income earned on the deposits made out of the funds lying with the assessee company. The factual background of the case is as under :

During the immediate preceding year i.e. financial year 2012­13, the appellant company sold his business. Thereafter, the appellant company was in the process of setting up of a new business, incurred certain expenditure and also earned interest income on FDs. The appellant company claimed the set-off of the expenses incurred against the interest income. The Assessing Officer was of the opinion that the expenses incurred for pre­operative nature cannot be set-off against the interest income and accordingly, brought to tax the interest income of Rs.2,21,92,972/-under the head “Income from other sources”.

3. Being aggrieved by the above order of assessment, an appeal was preferred before the ld. CIT(A) contending that the expenditure incurred between the setting up of the business and commencement of the business are allowable as revenue expenditure and such loss be allowed to set-off against the income assessed under the head “Income from other sources”. The CIT(A) however opined that the appellant had not carried on any business and the expenses incurred by the assessee are pre-operative expenses cannot be allowed as a deduction and accordingly, confirmed the action of the Assessing Officer.

4. Being aggrieved by the order of the ld. CIT(A), the appellant is in appeal before us in the present appeal.

5. The ld. AR had reiterated the same submission, as made before the ld. CIT(A) contended the expenses incurred during the intervening period between setting up and actual business should be allowed as deduction placing reliance on the following plethora of judicial precedents :-

(i) Carefour WC & C. India (P.) Ltd. vs. DICT, 53 com 289 (Delhi).

(ii) CIT vs. Dhoomketu Builders & Developments (P.) Ltd., 34 com 18 (Delhi).

(iii) Maruti Insurance Broking (P) Ltd. vs. DCIT, 127 com 685 (Delhi).

(iv) Ashoke Marketing Ltd. vs. CIT, 73 Taxman 126 (Cal.).

6. On the other hand, ld. Sr. DR placing reliance on the order of the ld. CIT(A) submits that no interference is called for.

7. We heard the rival submissions and perused the material on record. The issue that arises before us for our consideration is as to the deductibility of the expenditure incurred between set-up business and actual commencement of business, set off of such expenses against the interest income earned on FDs made out of idle funds or not. The admitted facts of the case are that in the immediate preceding previous year, the appellant company had sold its business, however, it was in the process of setting up a new business by identifying some distribution business. In the process, incurred certain revenue expenditure in the form of salary, etc other expenses which are part of the Note 16 placed at page no.25 of the Paper Book. The Assessing Officer was of the opinion that all these expenditures were incurred in the process of setting up a new business which are only pre-operative expenses cannot be allowed as deduction. The said view of the Assessing Officer was upheld by the ld. CIT(A). It is settled position of law that expenses incurred during interval between setting up of the business and commencement of the business are allowable as deduction as held by the Hon’ble Supreme Court in the case of CIT vs. Ramaraju Surgical Cotton Mills Ltd, 63 ITR 478 (SC) and CIT vs. Sarabhai Management Corpn. Ltd., 192 ITR 151 (SC) followed by the Hon’ble Gujarat High Court in the case of Sarabhai Management Corpn. Ltd. vs. CIT, 102 ITR 25 (Guj.) and also followed by the Hon’ble Bombay High Court in the case of Western India Vegetable Products Ltd. vs. CTI, 26 ITR 151 (Bom.). In the present case, the Assessing Officer as well as the ld. CIT(A) simply discussed the legal principle without adverting to the material facts on record and had not really decided whether the appellant company had set-up of business and ready to commence the business or not. On perusal of the Profit & Loss Account placed at Paper Book indicates that certain expenditure was incurred in connection with business which was sold were also debited to the Profit & Loss Account. Therefore, the Assessing Officer as well as the ld. CIT(A) had failed to examine the nexus of the expenditure incurred and the new business stated to have been set-up. In these circumstances, we are of the considered opinion that the matter requires remission to the file of the Assessing Officer to decide the issue in appeal with reference to the material on record whether the appellant company had set-up a new business or not. In case, on examination of the material on record, the Assessing Officer formed an opinion that new business had been set-up, the expenditure incurred during the interval period of setting up of a new business and its commencement of business can be allowed as deduction in the light of the judicial precedents discussed above (supra) and can be set-off against the interest income earned on fixed deposits by the assessee assessed under head “Income from the other sources”. Accordingly, we remit the matter to the file of the Assessing Officer for a fresh consideration after affording reasonable opportunity of being heard to the assessee. Thus, the grounds of appeal raised by the assessee stands partly allowed for statistical purposes.

8. In the result, the appeal filed by the assessee stands partly allowed for statistical purposes.

Order pronounced on this 07^th day of November, 2022.

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