Introduction The Income Tax Appellate Tribunal (ITAT) Delhi, in a recent case involving ITO Vs Logix Buildcon Pvt Ltd, upheld the CIT’s order that interest incurred towards project expenses is not deductible from the project expenses. The case scrutinizes the capitalization of interest expenses and the nature of penal interests.
Analysis The case revolves around the issue of whether penal interest can be capitalized under project expenses. The ITAT concluded that the interest incurred by Logix Buildcon Pvt Ltd for delay in payment to the New Okhla Industrial Development Authority was not penal in nature. Instead, it was an additional interest payment as per the agreement and should be considered part of the project cost. ITAT upheld the decision of CIT(A), allowing the amount to be capitalized under project expenses. The ruling reflects a thorough examination of the lease agreement terms and the context of the incurred expenses.
Conclusion The ruling reaffirms that not all interests charged for late payments can be categorized as ‘penal’. The nature of such expenses depends on the terms of the agreement under which they arise. As the case ITO Vs Logix Buildcon Pvt Ltd demonstrates, the distinction between ‘penal’ and ‘additional interest payment’ can significantly impact how expenses are classified and whether they can be capitalized under project expenses. The ITAT’s dismissal of the revenue’s appeal confirms this perspective, reinforcing a nuanced approach to interest expenses in financial and tax law.
FULL TEXT OF THE ORDER OF ITAT DELHI
1. This is an appeal filed by the revenue against the order of the ld CIT(A)-5, New Delhi dated 27.11.2018 for AY 2015-16.
2. The assessee has raised the following grounds of appeal:-
“On the facts and in the circumstances of the case, the Ld. CIT(A) has erred in law in deleting the disallowance of Rs. 8,35,81,377/- on account of Penal Interest to New Okhla Industrial Development Authority and in directing the AO not to reduce the said amount and allow it to be capitalized under project expenses.”
3. Sr. DR supported the assessment order and submitted that the ld CIT(A) has erred in law in deleting the disallowances of Rs. 8,35,81,377/- on account of Penal Interest to new Okhla Industrial Development Authority and in directing the AO not to reduce the said amount and allow it to be capitalized under project expenses.
4. Drew our attention towards relevant parts of the assessment order the ld Sr DR submitted that the AO rightly made disallowance in of penal interest out of project expenses (work in progress) by holding that the interest being penal in nature is clearly not allowable under the provisions of the Act. The ld Sr. DR submitted that the assessee has been granted relief by the ld CIT(A) without any basis, therefore, the impugned first appellate order may kindly be set aside and restore to the file of AO.
5. Replying to the above, the assessee’s representative supported the first appellate order and drew our attention towards relevant para 3 to 7.8 of the first appellate order and submitted that the impugned interest claimed by the assessee is neither related to any offence or arising out of any prohibition in law or any infraction of law but relates to the delay in payment for the lease amount to the Noida Authority and payable as per the agreement @3% of the default amount due to delay for the payment of lease amount.
6. The ld AR contended that therefore, the additional interest payment was as per agreement and the same was not in penal in nature therefore, the assessee rightly capitalized the same as work in Further, drawing our attention to towards 4th para of last page of assessment order the ld AR submitted that the AO himself noted that the assessee has not claimed but has only capitalized the same under the head project expenses (work in progress), thus, the same will not have any bearing the on the taxable income for the year under consideration, but will have bearing only on further profits/ income. Therefore, the findings of the AO himself supports the case of the assessee therefore, the order of the ld CIT(A) may kindly be upheld.
7. On careful consideration of the above submissions, from assessment order we note that the AO denied capitalization of interest paid to Noida authority by holding and alleging that the same is penal in nature, thus, not allowable under the provisions of the Act. On the other hand from the relevant part of the first appellate order, we note that the ld CIT(A) recorded following findings for grant of relief to the assessee and allowing the assessee to capitalized impugned amount of interest paid, which reads as follows:
“7.1 I have carefully considered the assessment order, submissions by the appellant and the case laws relied upon.
7.2 It is observed from the profit & loss account for the year ended 31.03.2015 that no revenue from operations has been shown and no such interest expenses have been claimed / shown or routed through the profit & loss account. The liability towards such interest as per the lease deed including the penal interest @ 3% has been taken into the work in progress (project expenses) by the appellant in the balance sheet. This amount remained unpaid, which is also confirmed by the Noida Authority and accepted by the AO.
7.3 The AO considered this amount as penal in nature, based on the lease deed and as per the confirmation from the Nolda Authority.
7.4 The appellant contended as reproduced above that this is the default amount as additional interest, being compensatory in nature and actually remained unpaid. There is no violation of law therefore, it cannot be said that it is a penal interest in nature and not an allowable expenses.
7.5 It is seen that the expenses in the nature of penalty are not allowable u/s 37(1) r.w. Explanation 1 of the Act which is as follows:
“37. (1) Any expenditure (not being expenditure of the nature described in sections 30 to 36 and not being in the nature of capital expenditure or personal expenses of the assessee), laid out or expended wholly and exclusively for the purposes of the business or profession shall be allowed in computing the income chargeable under the head “Profits and gains of business or profession”.
[[Explanation 1]-For the removal of doubts, it is hereby declared that any expenditure incurred by an assessee for any purpose which is an offence or which is prohibited by law shall not be deemed to have been incurred for the purpose of business or profession and no deduction or allowance shall be made in respect of such expenditure]”
7.6 In this regard, first of all the interest has not been claimed as expenditure with the meaning of section 37 of the Act or any other section as stated (30 to 36). Further, this is treated by the appellant as work in progress and for the year under consideration, shown as work in progress, which is capital in nature. Therefore, it cannot be treated as not allowable.
7.7 Now coming to the contention of the appellant that simple interest, paid on delayed payment is not penal in nature. Further, the ratio laid down in case laws relied upon by the appellant are applicable to the issue of the appellant also. This interest claim (yet to be paid) is neither relates to any offence or arising out of any prohibition in law or any infraction of law but relates to the delay in payment for the lease amount to the Noida Authority and payable as per the agreement @ 3% of the default amount due to delay in such payment. Thus it is an additional interest payment as per the agreement. This has been capitalized as work in progress.
7.8 In view of the above discussion and considering the facts and circumstances in this case and in law, it is held that this amount of Rs. 8,35,81,377/- is towards the project expenses and not liable for reduction from the project expenses, being part and parcel of the project cost as additional interest payment. However, looking to the fact that the payment has not been actually made, therefore, the actual payment is to be considered as cost of project in future while considering the income of the appellant.
7.9 The AO is directed not to reduce the said amount and allow the same to be capitalized under the project expenses.
7.10 These grounds of appeal are allowed accordingly.”
8. Further, we note that there is no findings by the AO nor any submission by the ld Sr. DR to show that the interest paid by the assessee was penal in nature. Per contra, from the findings and observations of ld CIT(A), as has been reproduced hereinabove, it is clear that the after evaluation of documentary evidence including agreement with the Noida Authority, the ld CIT(A) noted that the interest claimed by the assessee neither relates to any offence or arising out of any prohibition in law or any infraction of law but relates to the delay in payment for the lease amount to the Noida Authority and thus parable as per the agreement @3% of the default amount for the period of delay in such payment. With these observations, the ld CIT(A) allowed the assessee to capitalize the interest paid by the assessee to Noida Authority. The ld CIT(A) also observed that the said interest amount have been incurred towards project expenses and not liable to be reduced from the project expenses, being part and parcel of the project cost as additional interest payment due to delay in payment of lease charges. In view of the foregoing, we are inclined to agree with the conclusion of the ld CIT(A), where he directed the AO not to reduce the amount of interest from the work in progress and allow the same to be capitalized under the project expenses. Therefore, no interference is called for the in the first appellate order.
9. Accordingly, ground of revenue is dismissed being devoid of
10. In the result, appeal of the revenue is dismissed.
Order pronounced in the open court on 11/07/2023.