Subramonian Poti, Actg. C.J.
1. Though numbered as two different reference cases, I.T.Rs. Nos. 65 and 66 are really one reference concerning the year 1969-70. Two numbers are given evidently because the Commissioner of Income-tax made two reference applications in the same case and that again only because before the Tribunal there was an appeal by the assessee and another by the department and they were disposed of by a common judgment. There is thus only one reference concerning the year 1969-70, and the only question referred is:
'Whether, on the facts and in the circumstances of the case, the Income-tax Appellate Tribunal is right in law in allowing the extra expenditure of Rs. 1,32,702 towards process royalties, on account of devaluation of Indian rupee, as a deduction under Section 35A of the Income-tax Act, 1961?'
2. Similarly, I.T.Rs. Nos. 71 and 72 of 1977 are two numbers given for the same reference and that for the assessment year 1970-71, in regard to the same assessee. In that case too, two reference applications had been made as in I.T.Rs. Nos. 65 and 66 of 1977. Besides the question which is the subject of I.T.Rs. Nos. 65 and 66 of 1977, in I.T.Rs. Nos. 71 and 72 there is a second question, namely :
'Whether, on the facts and in the circumstances of the case, the Income-tax Appellate Tribunal is right in law in treating the interest receipts of Rs. 14,09,802 from bank deposits as business receipts of the assessee for the purpose of Section 80J of the Income-tax Act 1961 ?'
3. The assessee is M/s. Cochin Refineries Ltd., Ambalamugal, a public limited company, engaged in the business of refining crude mineral oils. The company entered into two agreements with M/s. Universal Oil Products Company, U.S.A., on November 26, 1963, and on December 30, 1963, respectively. According to these agreements, the assessee-company obtained patent rights from the Universal Oil Products Company to use the U.O.P. Merox Process and U.O.P. Platforming Process for refining oil in India. The foreign company had to be paid a royalty of Rs. 3,42,543 in dollars for using these patents. The liability for this payment accrued immediately on implementing the processing of the refinery, i.e., on September 16, 1966, the date, the refinery was commissioned. The assessee brought into its books of account this liability in the accounting year ended on August 31, 1967.
4. There was some difference of opinion between M/s. Philips Petroleum Company Inc. which had floated the assessee-company along with the Govt. of India and the Govt. of India as to who should pay the royalty. Ultimately, it was settled, M/s. Philip Petroleum Company agreeing to pay 50 per cent. and the assessee-company agreeing to pay the other 50%.
5. The 50% of the liability of the assessee-company for payment of royalty came to Rs. 10,93,981. Though the liability was carried to the books of account of the assessee-company only in the accounting year ended with August 31, 1967, some payments had been made earlier, the dates thereof being:
December, 1964
$59,679-23
March, 1965
$154-27
27-12-1966
$37,146-00
April, 1968
$37,146-00
September, 1968
$37,146-00
Total $171,271-50
6. The assessee-company began to write off the liability brought into the books on August 31, 1967, from that year onwards at 1/5th of the amount for each year carrying forward the balance of the liability to next year. Accordingly, in the assessment year 1969-70 for which the accounting year is that ended August 31, 1968, the assessee claimed Rs. 2,18,796 as deductible expenditure. The claim for such deduction towards payment of process liability was not entertained for that year as it was not entertained similarly for 1968-69. Section 35A of the Act provides for deduction towards expenditure on acquisition of patent rights or copyrights. In accordance with, that Section only 1/14th was to be deducted in a year, the year to commence from the previous year in which the expenditure is incurred or where the expenditure is incurred before the commencement of the business, the fourteen previous years beginning with the previous year in which the business commenced. In this case, the expenditure had been incurred before the commencement of the business and, therefore, it is with the commencement of the business that deduction at 1/14th per year would be permissible. The ITO found that the total liability of Rs. 10,93,981 claimed by the assessee was not the total liability towards the process royalty. This included a sum of Rs. 1,32,702 being the adjustment on account of devaluation of Indian rupee with reference to American dollars as on June 6, 1966. The instalments of process royalty payable by the assessee by June 6, 1966, the date of devaluation, had been fully paid by the assessee in dollars, that being a sum of Rs. 5,71,587, so much so that on June 6, 1966, no amount was outstanding. Of course, future instalments were payable and they were paid. In paying the instalments before June 6, 1966, the assessee had utilised the dollars available to it from the loans taken from M/s. Philips Petroleum Company. Though that was not intended for the payment of process royalty, since that was available and remained unutilised at that time, the process royalty dues had been paid out of it. On the basis that replacement of such dollars utilised before devaluation would mean an additional liability on the part of the assessee, that liability being the difference in the dollar value due to devaluation, that amount of Rs. 1,32,702 was also brought into the books of account of the assessee as adjustment on account of devaluation. In other words, the amount of Rs. 1,32,702 represents the devaluation effect and that too was sought to be brought under Section 35A of the Act. According to the ITO this was not permissible and this would not fall within Section 35A. The ITO held that 1/14th of this amount of Rs. 1,32,702 representing the devaluation effect was not allowable as a deduction under Section 35A. This was confirmed by the AAC. The Tribunal, in further appeal, found that the assessee-company had paid out of the borrowed funds the three instalments of process royalties prior to June 6, 1966, that when the assessee was entitled to deduction in respect of expenditure towards process royalty on commencement of production the assessee had to compute its expenses in terms of Indian rupees and, therefore, had to take into account the extra burden placed on the company because of devaluation. In this view, the assessee's case was accepted by the Tribunal. It is that which has given rise to the first question in both the years 1969-70 and 1970-71. We will first consider this question before we state the facts of the second question.
7. The amount of Rs. 1,32,702 is not an amount of expenditure actually incurred by the assessee. If the assessee had not paid the three instalments which had fallen due prior to the date of devaluation, i. e., June 6, 1966, no doubt the assessee would have had to pay in terms of Indian rupees more than what it would have had to pay had it paid the amount in terms of Indian rupees prior to devaluation. But it did actually pay prior to devaluation. In doing so it utilised the dollar fund available to it by way of loan unutilised at that time. Of course, if that was intended for some other purpose and had to be replaced, in terms of Indian rupee that meant a value in terms of the post-devaluation rupee. Section 35A(1) reads thus:
'35A. (1) In respect of any expenditure of a capital nature incurred after the 28th day of February, 1966, on the acquisition of patent rights or copyrights (hereafter, in this section, referred to as rights) used for the purposes of the business, there shall, subject to and in accordance with the provisions of this section, be allowed for each of the relevant previous years, a deduction equal to the appropriate fraction of the amount of such expenditure.
Explanation,--For the purposes of this section,--
(i) 'relevant previous years' means the fourteen previous years beginning with the previous year in which such expenditure is incurred or, where such expenditure is incurred before the commencement of the business, the fourteen previous years beginning with the previous year in which the business commenced :
Provided that where the rights commenced, that is to say, became effective, in any year prior to the previous year in which expenditure on the acquisition thereof was incurred by the assessee, this clause shall have effect with the substitution for the reference to fourteen years of a reference to fourteen years less the number of complete years which, when the rights are acquired by the assessee, have elapsed since the commencement thereof, and if fourteen years have elapsed as aforesaid, of a reference to one year ;
(ii) 'appropriate fraction' means the fraction the numerator of which is one and the denominator of which is the number of the relevant previous years.'
8. In order to apply this section it is necessary that there should be an expenditure of a capital nature, such expenditure should be incurred after the 28th day of February, 1966, and such expenditure should be incurred on the acquisition of patent rights or copyrights used for the purposes of the business. Only when all these three conditions are satisfied any question of deduction under Section 35A would arise. Otherwise when an expenditure of a capital nature is incurred there would be no question of deduction at all. In these cases, no doubt, a fund available earlier as loan fund had been utilised prior to February 28, 1966, and if that was to be replaced in foreign currency that would require the incurring of an amount higher than the pre-devaluation value after the devaluation. But the notional liability so arising cannot be said to be by way of expenditure on the acquisition of patent rights or copyrights. At best it could be said to be a liability arising by reason of the obligation to make up the value of the dollars utilised for payment towards patent rights prior to devaluation. The expenditure had been incurred prior to 28th February, 1966. The liability which is said to arise, as pointed out above, would not be a liability arising on account of any expenditure on the acquisition of patent rights or copyrights. Such expenditure had been met as already pointed out.
9. In the order of the Tribunal this question is not discussed. The order of the Tribunal which is the subject of I.T.Rs. Nos. 65 and 66 of 1977 only states thus:
'The statute provides for 1/14th of the expenses to be allowed in each year. Now, the assessee has to compute his expenses in terms of Indian rupees. So he has to take into account the extra burden placed on them because of the devaluation. The assessee will be entitled to take into account this amount of Rs. 1,32,702 also in computing the relief for this purpose.'
10. The scope of Section 35A in the light of its clear language has not been considered by the Tribunal in I.T.Rs. Nos. 65 and 66 of 1977. We, therefore, answer the only question in I.T.Rs. Nos. 65 and 66 of 1977, and the first question in I.T.Rs. Nos. 71 and 72 of 1977 in the negative, that is, in favour of the revenue and against the assessee.
11. Now, we come to the second question. That concerns the claim for relief under Section 80J on interest income. Section 80J(1) reads thus:
'Where the gross total income of an assessee includes any profits and gains derived from an industrial undertaking or a ship or the business of a hotel, to which this section applies, there shall, in accordance with and subject to the provisions of this section, be allowed, in computing the total income of the assessee, a deduction from such profits and gains (reduced by the deduction, if any, admissible to the assessee under Section 80HH) of so much of the amount thereof as does not exceed the amount calculated at the rate of six per cent. per annum on the capital employed in the industrial undertaking or ship or business of the hotel, as the case may be, computed in the prescribed manner in respect of the previous year relevant to the assessment year (the amount calculated as aforesaid being hereafter, in this section, referred to as the relevant amount of capital employed during the previous year): Provided that in relation to the profits and gains derived by an assessee, being a company, from an industrial undertaking which begins to manufacture or produce articles or to operate its cold storage plant or plants after the 31st day of March, 1976, or from a ship which is first brought into use after that date, or from the business of a hotel which starts functioning after that date, the provisions of this sub-section shall have effect as if for the words 'six per cent.', the words 'seven and a half per cent.' had been substituted.'
12. The assessee-company had borrowed, for the purpose of purchase of machinery and erection of refinery plant, heavy funds from U.S.A. In the course of the refinery business the company generated sufficient profits to leave some surplus cash with the company from time to time. Such surplus cash was not to be utilised forthwith in repaying the loans since such loans had not fallen due. They would be due only on the dates specified in the agreements. Therefore, the company deposited these amounts for various terms in banks. In that process the company earned interest income. Such income amounted to Rs. 14,09,802. The ITO treated this amount as income from other sources and did not allow deduction under Section 80J of this amount. The AAC held that the deposits by the assessee-company represented money not required for the business and, therefore, held that income from such deposits would not be business income. The Tribunal found that the deposits in question had been made after the commencement of the business, that the company found it had surplus cash and instead of keeping the money idle it had been deposited to generate further profits. But the deposits were for short terms and the liquidity of the deposits was not lost. For that reason the income was treated as business income. The Tribunal found that relief under Section 80J should be allowed on such interest income.
13. We find from the facts that the loans taken by the company had to be repaid in instalments, which had not fallen due when the profits generated by the company in the course of the working became available to the company. Naturally these amounts had to be retained to be available as cash as and when payments of the instalments were due. Consequently, the profits so generated were deposited in banks in short-term deposits. This has been illustrated in the statement of the case. It is these deposits that yielded interest. Repayment of loans in instalments were payments for the purpose of business. When repayments were due from time to time they had to be made. Money available even earlier could be profitably utilised until the due dates of such repayments by making short-term deposits. The Tribunal found that by placing the amounts in such deposits 'the assets did not get frozen or sterilised. They could be taken out of the bank at any time the company required.' On these facts, the Tribunal found that nothing had happened to the assets to change the character from that of a business asset. If the amount had remained with the company in cash till the date of repayment and utilised for such repayment it would no doubt have been a business asset. Could it make any difference because amounts were deposited in such a manner as to be available for payment when such payments fell due That is the question here. The case of the assessee is that in making such deposits it was only exploiting the business assets in the best manner possible under the circumstances without in any way affecting the liquidity of the funds.
14. The question in the context of Section 80J, is whether the income obtained by way of interest from such short-term deposits can be treated as income derived from the industrial undertaking. It may be an income derived from other sources or it may be an income derived from business. If it would be income from other sources it could not be an income derived from business. In this context, we may advert to decisions relied on by counsel for the revenue in support of the case that the income derived from deposits could not be traced directly to the business and, therefore, should be treated as income from other sources. The question of proper construction of the expression 'any profits and gains derived from a ship' in Section 80J came up for consideration before the Bombay High Court in New India Fisheries Ltd. v. P.M. Mehra, ITO : [1971]82ITR765(Bom) . Justice Tulzapurkar of that court (as he then was) held the view that the said expression will have to be construed as profits and gains directly derived from that source and the benefit of that provision cannot be availed of if the assessee was using the ship or ships as instruments for carrying on his business activity which produced the income. In a case where the Supreme Court was called upon to consider the question whether the income derived from a composite letting of a building fitted with furniture for the purpose of being run as a hotel was income from other sources or was an income from business, the Supreme Court expressed the view that whether a particular letting was business had to be decided in the circumstances of each case. Sarkar J., speaking for the court, said in that case, Sultan Brothers P. Ltd. v. CIT : [1964]51ITR353(SC) , thus (p. 358):
'We think each case has to be looked at from a businessman's point of view to find out whether the letting was the doing of a business or the exploitation of his property by an owner.'
15. According to the revenue merely because an assessee exploits his property to his best advantage it should not be that income derived from such exploitation is income from business. That the words 'derived from' are of narrower import than the words 'attributable to' used in Section 80E of the Act, where a similar deduction is provided for, was noticed by the Supreme Court in Cambay Electric Supply Industrial Co. Ltd. v. CIT : [1978]113ITR84(SC) , The Supreme Court also noticed that the Legislature had deliberately used the expression 'attributable to' having a wider import and not the expression 'derived from' in Section 80E thereby intending to cover receipts from sources other than the actual conduct of the business of the specified industry. That was a case of sale of old machinery and buildings resulting in balancing charges contemplated by Section 41(2) of the Act. Whether such balancing charges can be attributed to the business of the assessee was the question the Supreme Court had to consider and it is in that context that the court said thus (p. 93):
'It cannot be disputed that the expression 'attributable to' is certainly wider in import than the expression 'derived from'. Had the expression 'derived from' been used, it could have with some force been contended that a balancing charge arising from the sale of old machinery and buildings cannot be regarded as profits and gains derived from the conduct of the business of generation and distribution of electricity. In this connection, it may be pointed out that whenever the legislature wanted to give a restricted meaning in the manner suggested by the learned Solicitor-General, it has used the expression 'derived from', as, for instance, in Section 80J. In our view, since the expression of wider import, namely 'attributable to', has been used, the legislature intended to cover receipts from sources other than the actual conduct of the business of generation and distribution of electricity.'
16. No doubt these decisions lend weight to the argument of learned counsel for the revenue, Sri P. K. R. Menon, that the words 'derived from' in Section 80J of the Act cannot have a wide import so as to include any income which can in some manner be attributed to the business. The derivation of the income must be directly connected with the business in the sense that the income is generated by the business. It would not be sufficient if it is generated by the exploitation of a business asset. In the case before as, the income by way of interest from the deposits is no doubt an income derived by investing surplus cash of the assessee generated as profits of the industrial undertaking. But, it is not money derived from the business activity of the industrial undertaking but by the business activity of deposit of the business asset in banks. Within the meaning of the term 'derived from' it will not be possible to hold that the income so generated is the income falling within Section 80J. Hence, we answer question No. 2 in I.T.Rs. Nos. 71 and 72 against the assessed and in favour of the revenue.
17. A copy of this judgment under the seal of the High Court and the signature of the Registrar will be sent to the Income-tax Appellate Tribunal, Cochin Bench.