Case Law Details
1. Introduction :-It is quite common among the businessmen involved in a manufacturing activity to carry out replacement of parts or machines in a production system. The very word ‘replacement’ would only refer to a situation where it would mean that an existing facility is maintained at its level of efficiency. In other words, such replacement of parts or machines would not result in enhancement of production capacity. Whether such replacement cost is to be treated as revenue or capital expenditure is always a controversial issue.
It is quite common for the Revenue to treat such expenditure as capital in nature and administer depreciation allowance, only. An assessee would always put forth his argument that such replacement cost is only to maintain the existing level of efficiency of his manufacturing facility and would not result in any increase in its production capacity, thereby claiming it to be revenue in nature. In this context, it is quite pertinent to examine the current judicial thinking on this issue.
2. Judicial precedence :-This issue came up before the Hon’ble Madras High Court in the case of CIT vs. Janakiram Mills Ltd. (2005) 275 ITR 403, Mad. It was held by the Court that even replacement of core machinery when it forms part of the continuous process industry, the same is to be allowed as revenue expenditure. The block of assets system should make no difference with this inference. It was held that though such replacement costs may be qualified as current repairs u/s 31, the same would be equally eligible for deduction u/s. 37 of the Act. The Court distinguished earlier Supreme Court Ruling in Ballimal Naval Kishore vs. CIT (1997) 224 ITR 414 and clarified that the Apex Court judgment applies only to cases of replacement of ‘entire manufacturing facility’. It was observed that the Courts cannot ignore the advancement in science and technology and accordingly, identify the thin line of demarcation between capital and revenue expenditure.
2.1 It is important to distinguish between what is ‘current repairs’ and what is an ‘item of expenditure’ allowable u/s 37 of the Act. Finance Act, 2003 amended sections 30 and 31 relating to deductions for repairs of buildings and machinery, plant & furniture to provide that current repairs shall not include any expenditure in the nature of capital expenditure. The words ‘current repairs’ and ‘capital expenditure’ are contradicting terms. In view of the same, it was widely debated among the professional circles whether the Explanations have served any additional purpose. In other words, even in the absence of the Explanations bringing out the amendment to sections 30 & 31, the import of contradiction was intact. Accordingly, it was also felt that the amendment did not bring in any new ratio and thereby, the plethora of case law in this context was intact for reliance. It is appropriate to discuss the characteristic of enduring nature in respect of particular expenditure to decide whether the same is capital or revenue.
2.2 Landmark judgment of the Apex Court in Empire Jute Co. Ltd. vs. CIT (1980) 124 ITR 1 is of immediate relevance in this context. It was categorically held that every enduring advantage may not result in capital asset and if the same is not capital asset, the relating expenditure is to be allowed in the revenue field. If the enduring advantage resulting in expenditure, allows an assessee to carry on business smoothly in an efficient manner, the same cannot be said to have created a new asset. Accordingly, the ratio to be applied as mentioned above would hold good irrespective of the volume of expenditure. In appreciating whether a new asset has been created, it is directly relevant to verify whether the expenditure resulted in increasing the production capacity of the assessee.
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