ITAT JODHPUR BENCH
Shri Kansara Modular Ltd.
versus
Assistant Commissioner of Income-tax, Jodhpur
IT Appeal No. 196 (Jodh.) of 2011
[ASSESSMENT YEAR 2006-07]
FEBRUARY 11, 2013
ORDER
Hari Om Maratha, Judicial Member
This appeal of the assessee for Assessment year 2006-07 is directed against the order of the ld. CIT(A) dated 21.03.2011.
2. The Appellant has raised the following grounds in its appeal:
1. “That on the basis of facts and circumstances of the case, whether the learned CIT(A) was justified in determining interest pertaining to preoperative period at Rs.524 lacs as against Rs. 731.55 lacs claimed by the appellant.
2. That on the facts and circumstance of the case, whether the learned CIT(A) was justified in holding that waiver of interest amounting Rs.731.55 lacs is taxable under section 41(1)and section 28(iv) of the Income-tax Act, 1961″.
3. The facts leading to this appeal, in brief, are that the assessee is a Public Ltd Company, engaged in the manufacturing of rollers for bearings. For the Assessment year 2006-07, it filed return of income (ROI) through e-filing on 22.11.2006, declaring nil income. The assessee- company maintains its books of accounts in a computer system. But a hard copy of computerized cash-book, Ledger, Journal, Bank-Book and vouchers etc. were produced before A.O. for verification. The assessee- company has properly maintained its stock register. In Assessment Years 2004-05 to 2006-07 g.p. rates of 33.27%, 19.19% and 23.64%, respectively, have been disclosed.
4. Below the computation of income, the assessee has appended a ‘note’ as under :-
“During the year financial institutions waived interest liability of Rs.22,74,85,511/- in favour of the Company. Out of which an amount of Rs. 7,31,55,195/- pertains to pre- operative period and on the basis of legal opinion, same has not been brought to tax being a capital receipt.”
5. During the course of assessment proceedings, the assessee was requested vide letter dated 30/10/2008 to show cause as to why interest related to pre- operative period of Rs. 7,31,55,195/- waived by the Financial Institution, should not be treated as revenue receipt and taxed accordingly. In this connection you are requested to explain/ furnish the following:
(a) A copy of legal opinion.
(b) Basis of working of amount of interest pertains to pre- operative expenses (Asstt. year wise bifurcation of expenses should be furnished).
(c) What treatment was given to interest amount pertaining to pre- operative expenses? Whether capitalized or set off against interest received on FDR’s purchased against letter of credit.
(d) When you have treated the same as capital receipt then why the value of assets was not reduced proportionately.
(e) You are requested to show cause as to why these receipts should not be treated as revenue receipts and assessed to tax accordingly.”
6. In compliance to the above show cause, the assessee filed a written submission on 27/11/2008 explaining as under:-
“You have asked to show cause why interest relating to preoperative period of Rs. 7,31,55,195/- waived by the financial institutions be not treated as revenue receipts and assessed to tax accordingly and another query that why Interest has not been reduced from the cost of assets proportionately. In this regard we have been directed to submit as under: At the very outset, we wish to point out some facts which in our opinion are undisputed:
• Those Loans were advanced by State Bank of Bikaner & Jaipur, Jodhpur and other banks to the assessee company for the construction of factory building, purchasing & installation of plant & machinery and other capital assets.
• That assessee company had capitalized interest to the cost of various assets up to the period they were put to use and subsequent year’s interest was being debited to Profit & Loss Account in respective years as revenue expenditure.
• That the assessee never claimed/got deduction for payment of preoperative interest u/s 36(1)(iii) or under section 37 of the Act
• Due dis allowances/deductions under section 43B have been made in computations of total income in respect of interest claimed as revenue expenditure in various years.
Now let us examine the taxability of waiver of interest which was capitalized to the cost of fixed assets:
Relevant portion of Section 41(1) of the Income Tax Act, 1961 reads as under:
“41(1) Where an allowance or deduction has been made in the assessment for any year in respect of loss, expenditure or trading liability incurred by the assessee (hereinafter referred to as the first mentioned person) and subsequently during any previous year,
(a) The first mentioned person has obtained, whether in cash or in any other manner whatsoever, any amount in respect of such loss or expenditure or some benefit in respect of such trading liability by way of remission or cessation thereof, the amount obtained by such person or the value of benefit accruing to him shall be deemed to be profits and gains of business or profession and accordingly chargeable to income tax as the income of that previous year, whether the business or profession in respect of which the allowance or deduction has been made is in existence in that year or not; or “
Section 41(1), in a way, enacts statutory fictions. Therefore, the operation of such fictions should be limited to the language of the section. It is, inter alia, where the assessee has incurred a trading liability’, and this trading liability has been allowed deduction in an earlier year, and something has, later on, been recovered in respect of such liability or such liability has either been remitted or has ceased to exist, than section 41(1) comes into operation.
It is contended that in order to attract section 41(1) of the IT Act, the first requisite which ought to be satisfied is that the assessee should have got deduction or benefit of allowance in respect of loss, expenditure or trading liability incurred by the assessee and that subsequently during any previous year the assessee received any amount in respect of such loss, expenditure or trading liability by way of remission or cessation thereof.
In our case, Assessee Company has never got deduction in respect of impugned Rs.7.32 crores under section 36(1)(iii) or section 37, and under the circumstances section 41(1) of the Act is not attracted. In the case of CIT v. Phool Chand Jiwan Ram [1981] 131 ITR 37 (Del), the assessee firm had purchased goods. They had also obtained loans from a party, accounts were settled and the balance was credited to the partner’s account. It was held by the Delhi High Court that the amount referable to loans was not a trading liability. That, the only amounts allowed as deduction in earlier years could be treated as a trading liability. In other words, unless the amounts have been allowed as deduction in earlier years they cannot be treated as trading liability and as such section 41(1) is not applicable.
It will not be out of place to mention here that section 41(1) consists of two main ingredients viz., (a) “loss or expenditure” and (b) “trading liability”. As per the decision of the Honorable Supreme Court decision in the case of Polyflex (India) (P) Ltd. v. CIT [2002] 177 CTR (SC) 93, the two components of section 41(1) of the Act have to be read separately, namely (i) has obtained, whether in cash or in any other manner whatsoever, any amount in respect of such loss or expenditure; (ii) some benefit in respect of such trading liability by way of remission or cessation thereof. Accordingly the Honorable apex Court held that the words “remission or cessation thereof shall apply only to trading liability and it shall not apply to any loss or expenditure.
The next issue which needs to be resolved is whether waiver of interest amount which was capitalized to the cost of assets would amount to trading liability?
In this regard it is submitted that only trading debts, which are allowed as deduction in earlier years, can be treated as trading liability. It is not in dispute that the interest amount which has been waived has not been claimed as deduction in any of the years, on the contrary it also became part of loan amount financed by the bankers as soon as that was capitalized.
Whether or not a liability is a trading liability depends on the facts and circumstances of a particular case. A liability created for purchase of stock-in-trade on credit is certainly a trading liability. Where A purchases his stock-in-trade from B on credit, the liability of A to is a trading liability. But if A borrows money from C in order to pay off his liability to B, ‘s liability to C on such borrowing is not a trading liability. It is thus clear that section 41(1) cannot be invoked if C remits a part or whole of his loans to A [CIT v. Phool Chand Jiwan Ram , [1981] 131 ITR 37 (Del)].
The next issue which needs attention is, whether the waiver of loan will amount to a benefit relatable to depreciation expenditure claimed earlier?
The depreciation u/s 32 is allowed on the “actual cost” of the assets. The term ‘actual cost’ has been defined in section 43(1) according to which, ‘actual cost’ 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’. So, the only deduction permissible from the actual cost is the amount, which has been met by any other person or authority.
The words “which has been met by any other person or authority” would mean the non-refundable amount given by any other person or authority for the purpose of meeting the cost of the asset. When a person avails a term loan, it has to be repaid along with the interest, if any, in accordance with the terms and conditions prescribed for that purpose. If the term loan is utilized for acquiring any asset, it cannot be termed as ‘meeting of a portion of cost of the asset’. Loan is availed as a source of finance while the depreciation is allowed on the actual user of the asset. So ‘availing of loan’ and ‘claim of depreciation’ are two distinct things, which cannot be clubbed together and, therefore, remission of loan along with interest (on which assessee got no deduction u/s 36(1) (iii) or under section 37 of the Act) will not amount to remission of depreciation.
When the bankers wrote off the liability of the assessee company, it cannot be said in retrospect that the cost to’ the assessee of any part of the capital assets acquired during the years under installation, was met by bankers. It is, therefore, argued that the remission of liability by bankers long after the liability was incurred cannot be relied on to hold that bankers met directly or indirectly, part of the cost of the capital assets installed as early as 1995-96. As per section 43(1) of the Act, if the cost of the asset is met directly or indirectly, at the time of purchase of the machinery, by any other person or authority, to that extent, the actual cost of the assets to the assessee will stand reduced. But it is a far cry to state that though at the time of purchase of the machinery, no person met the cost either directly or indirectly, if, long thereafter a debt incurred in that connection is written off, it could be equated to a position that the financier met part of the cost of the asset to the assessee. We are at loss to accept the proposal that the remission of liability by bankers can, in any way, be said to be one, where the bankers met directly or indirectly the cost of the asset to the assessee.
It is, therefore, submitted that waiver of loan amount cannot be considered as income as it is capital in nature and allowance of depreciation cannot be equated with deduction in respect of “loss, expenditure or trading liability” and, therefore, depreciation allowed cannot be brought back to tax.
Even otherwise, there is no provision in the scheme of block assets to reduce the value of the Assets if the part of interest capitalized is subsequently reduced. The Honorable Kerala High Court in the case of Cochin Co (P) Ltd has specifically held that remission of loan taken to purchase machinery cannot be reduced from the cost of machinery
In the light of foregoing discussions it is submitted that:
• The waiver of principal portion of loan or interest thereon to the extent capitalized to the cost of assets couldn’t be taken as trading liability, as the impugned amount has never been claimed as expenditure or allowance under IT Act.
• And in the absence of any provision for varying the written down value in the year subsequent to the year in which the capital asset was installed, it would be unjustified and unlawful to reduce the written down value as proposed in the notice.”
7. But the A.O. was not convinced from the above explanation of the assessee- company that with a view to tackle its bad financial position, has entered into an agreement with the Banks and the formula suggested by the Bank has been implemented. The A.O. has opined that any such formula will not override or overrule the provisions of the Act and the principles of Accountancy. According to the A.O., the following adjustments are necessitated :-
(i) Whatever assessee has paid, during pre- operative period i.e. debits in Bank Account, were to be first adjusted against the accrued interest;
(ii) Whatever has been charged as interest by the Banks and accounted for against the interest cannot be waived. Waiver, as a prudent meaning refers waiver of amount due. This position is very much supported by the Bank accounts filed by the assessee. For example, assessee’s account in State of Bikaner & Jaipur for the F.Y. 98-99 is reproduced, as it is, as under:-
