1. All these appeals relate to the same group of assessee and since they also involve some common issues, were heard together and, therefore, they are being disposed of by a single order for the sake of convenience.
2. This appeal by the assessee is directed against the order passed by the CIT under Section 263 of the Act on 10th Feb., 1995. In the grounds of appeal, including the concise ground of appeal filed on 2nd June, 2005, the assessee has challenged both the assumption of jurisdiction under Section 263 as well as merits of the decision of the CIT. We may briefly notice the facts leading up to the appeal.
3. The assessment year is 1991-92, for which the previous year ended on 31st March, 1991. The assessee is a company incorporated in 1981 and engaged in the manufacture of PVC pipes. It filed a return of income on 31st Dec, 1991 declaring a loss. While completing the assessment under Section 143(3) of the Act, the AO noted that the assessee had incurred the following expenditure during the relevant previous year:(1) Payment made to MSEB for 220 KV power supply at 4,00,00,000 Ratnagiri to manufacture PVC resin(2) Cost of poles used for laying said power supply line 6,31,611(3) Expenses towards construction of approach road and culvert 12,12,000(4) Expenses towards construction of Thorli Nala 1,57,500 ------------ 4. He further noted that the expenses were not debited to the P&L a/c and were not claimed as a deduction in the return but were claimed only in the course of assessment proceedings by letter dt. 10th March, 1994.
Apparently, he had called upon the assessee to explain how the above items of expenditure were allowable as revenue expenditure. In response thereto, it was contended that so far as the laying of the high tension cables were concerned, for which the assessee paid Rs. 4,00,00,000 to the Maharashtra State Electricity Board (MSEB), the assessee was liable to incur the expenditure in terms of the agreement between it and the MSEB as per the Indian Electricity Rules, 1956; that the assessee did not become the owner of the cables, poles, etc.; that it was MSEB which became the owner thereof and under these circumstances, the expenditure should be considered as having been incurred wholly and exclusively for the purpose of the assessee's business. The correspondence with the MSEB and the extract from the Electricity Rules were furnished. It was also submitted that the lines would take two-three years for completion and that they were meant for electricity supply for the manufacture of PVC resin in the assessee's Ratnagiri unit. In support of the submission that the expenditure should be allowed as revenue expenditure, the assessee relied on the judgment of the Hon'ble Bombay High Court in the case of CIT v. Excel Industries Ltd. . On a consideration of these facts and judgment of the Hon'ble Bombay High Court, the AO allowed the expenditure as revenue in nature.
5. With regard to the expenditure of Rs. 12,12,000 it was explained that it was incurred for the construction of approach road and culvert at Pawas to facilitate the smooth transport of the materials upto the project site in Ratnagiri which was approximately 2.5 kms from the highway. It was also submitted that the land on which the road was laid did not belong to the assessee.
6. As regards the expenditure of Rs. 1,57,500 incurred towards construction of Thorali Nala, it was explained that the amount was paid as engineering consultancy fees towards the construction of dam at river Kolambe near the project site. The State Government had granted permission subject to the condition, inter alia, that the assessee will have to incur all construction expenditure and that the people around the river shall not be prohibited from drawing water from the dam. It was explained that the assessee was neither the owner of the dam nor of the water. The following authorities were cited in support of the above submission:L.H. Sugar Factory & Oil Mills (P) Ltd. v. CIT 7. The AO examined the facts and perused the judgments cited above and found that the expenditure was allowable as revenue expenditure as claimed in the assessment. The relevant discussion is contained in pp.
10 to 12 of the assessment order. It has to be clarified here that the assessee had also claimed expenditure of Rs. 6,31,611 as cost of poles used for laying the power line. The AO did not discuss this item of expenditure separately. However, in the computation of the taxable income at p. 16 of the assessment order, it is seen that he has allowed the entire payment of Rs. 4,06,31,611 as deduction. Apparently, the AO was convinced that the cost of poles amounting to Rs. 6,31,611 was also of the same nature as the amount of Rs. 4,00,00,000 paid to MSEB for laying high tension power lines.
8. By notice dt. 2nd Dec, 1994 issued under Section 263 of the Act, the CIT called upon the assessee to show cause why the aforesaid expenditure aggregating to Rs. 4,20,01,111 should not be treated as pre-operative expenses and disallowed since the Ratnagiri project for manufacture of resin has not commenced production as on 31st March, 1991. The assessee appears to have filed a very exhaustive reply to the notice objecting to the action under Section 263. However, by the impugned order, the CIT overruled all the objections and directed the AO to disallow the pre-operative expenses. A perusal of the order shows that the CIT has not accepted the assessee's contention that the unit in Ratnagiri for the manufacture of PVC resins is only an extension of the same business and that it cannot be considered as a new business.
Since Ratnagiri unit, according to the CIT, does not amount to a continuation of the same existing business of the assessee, the expenditure of Rs. 4,20,01,111 which was incurred prior to the commencement of production in the said unit was treated by the CIT as pre-operative expenses and directed to be disallowed. In coming to the conclusion, that the Ratnagiri unit did not amount to the expansion or continuation of the same business the CIT has held that there is no common management or common business organization or common fund or common place of business between the existing pipe unit at Chinch wad, Pune and the PVC resin unit being put up in Ratnagiri. He has further stated that the assessee has obtained a separate industrial licence for setting up of Ratnagiri unit and has also found it necessary to amend the memorandum of association to include the new activity, viz., the manufacture of PVC resin. He has also stated that a separate debenture issue was made raising the funds for Ratnagiri unit and separate plant and machinery were being imported from Germany with a separate agreement for technical collaboration with Uhde GmbH, West Germany. He has further observed that the expenditure in question was not debited to the P&L a/c nor claimed in the return of income but was claimed as deduction only in the course of the assessment proceedings. He has further noted that in the printed annual report, the expenses were capitalized as capital work-in-progress. According to the CIT, if the Ratnagiri project was an extension of the existing business, the expenditure would have been debited to the P&L a/c. He, therefore, came to the conclusion that the expenditure should be disallowed as pre-operative expenses as the business had not been carried on by the assessee during the relevant accounting year, which is the requirement under Section 28 of the Act. In support of the above conclusion, the CIT relied on the judgment of the Supreme Court in the case Challapalli Sugars Ltd v. CTT .
9. The assessee is in appeal before the Tribunal challenging the assumption of jurisdiction by the CIT under Section 263 and also his decision on merits.
10. We have carefully considered the rival contentions and the facts of the case. In our view, the Ratnagiri unit cannot be considered to be a new business. It should be considered as an extension or expansion of the same business carried on by the assessee. The assessee was manufacturing PVC pipes in its Chinchwad unit in Pune since incorporation in the year 1981. The manufacture of PVC pipes involved substantial import of PVC resin which constituted 75 to 90 per cent of the finished products. It was, therefore, felt the assessee should itself manufacture PVC resin. That would also save substantial foreign exchange. The memorandum of association was, therefore, got amended after passing a special resolution in the general meeting of the company. Whereas even before the amendment, the memorandum of association did contain a broad object which included the manufacture of PVC resins, it was considered by the company that by way of abundant caution, the amendment including a specific object separately to enable the assessee to manufacture PVC resins should be made. This was carried out through a special resolution passed in the general meeting of the company and another Clause 2A in the memorandum of association was specifically added to enable the assessee to manufacture PVC resins.
Even if it is considered that the original object cannot be construed as enabling the assessee to manufacture PVC resins and it was only the amended object clause which gave the power to the company to manufacture PVC resins, that would not be a decisive matter in considering whether the Ratnagiri unit was a new business or was merely an expansion of the existing business or the same business. The tests propounded in the authorities which have been cited before the CIT have recognized that the crucial test is to find out whether there is interconnection, interlacing, interdependence and unity between the existing units and new units so that they could be considered as one business. It has been held by the Supreme Court in the case of CIT v.Prithvi Insurance Co. Ltd. that the interconnection, interlacing, interdependence and unity are furnished by the existence of common management, common business organization, common administration, common fund and a common place of business. It is not necessary to multiply authorities on this point since it is now well-settled that the aforesaid tests are the relevant tests.
11. One more important factor which is to be noticed in the present case is that the assessee had adopted what is called backward integration, in the sense that, it had put up the Ratnagiri unit for the manufacture of PVG resins which is the raw material for the manufacture of PVC pipes. When a company, which is importing the raw material, puts up a unit for the purpose of manufacturing raw material on its own so that this raw material would be used for manufacturing the finished products, it is a case of backward integration. The present case is a case of backward integration. In such a case, it is very difficult to hold that the unit which manufactures the raw material should be considered as a separate business from the existing business of manufacturing PVG pipes. We may refer to only a few authorities in this behalf. In Kanhimm Ramgopal v. CIT , the assessee was carrying on a rice and Dal mill and borrowed money for setting up a factory for the manufacture of straw boards by using waste from the rice and Dal mill. The Madhya Pradesh High Court held that it was only a case of expansion of the business as it was a case of forward integration. In CIT v. Shah Theatres (P) Ltd. , the assessee was carrying on business in exhibition of film and during the year it started construction of a theatre of its own for the purpose of exhibiting the films. The Rajasthan High Court held this to be a case of expansion of the same business. In CIT v.Malwa Vanaspati & Chemicals Co. Ltd. , the assessee was manufacturing vegetable oils and chemicals and put up a new unit for the manufacture of a particular variety of acid which was to be used for the manufacture of dyes. This was considered to be a case of expansion of the business.
12. In the prospectus issued by the assessee-company for raising monies in respect of Ratnagiri unit for issue of redeemable convertible debentures, it has been stated that the setting up of the plant for the manufacture of PVC resins would mean backward integration for the company and make the company self-reliant in respect of supply of PVC resins. The manufacture of PVC resin by the company would result in a larger saving of foreign exchange for the country as it is an item of import substitution.
13. So far as the common funds are concerned, it is seen that the debentures issued are secured by the first mortgage of the existing movable and immovable assets and future assets also. The existing assets would mean the assets belonging to the pipes unit at Chinchwad, Pune. These assets have been offered as a security for the debenture which showed that there is a financial integration between the two units. This is one strong indication that the Ratnagiri unit is not a new business. As regards the common management, there is unity of control, in the sense that there is only one board of directors, which controls the Pune unit as well as the Ratnagiri unit. In the prospectus, it has been stated that the assessee-company is managed by a team of professional managers subject to the control and supervision of the board headed by Mr. P.P. Chhabria who has over 25 years of managerial and marketing experience in plastic industries. Mr. K.P.Chhabria has been appointed as the managing director of the company and he shall act subject to the supervision and control of the board. He has 20 years of managerial and technical experience in the plastic industry. He, along with Dr. A.S. Kane, the executive director would look after the various managerial aspects of the company and the PVC resins project. Dr. Kane is a directorate in mechanical engineering and holds a diploma in administration and management. Thus, there is only one board of directors which controls both the pipes unit at Chinchwad and PVC resins unit at Ratnagiri which furnishes the common management and unity of control as propounded by the judgment of the Supreme Court in the case of E.R. Ltd v. V.P. Gupta CIT . The CIT has refuted the theory of common management on the that (basis) the prospectus says that the company has drawn a recruitment plan to attract suitable talent to manage the PVC resin unit and the manpower requirement is 280. From this he has inferred that the Ratnagiri unit would be under a separate management. This is belied by the statement made by the prospects under the head "management" at p. 18 which refers to the same board controlling the PVC resins project also through Mr.
K.P. Chhabria and Dr. A.S. Kane. This gentleman was made in-charge of the project but only under the control of common board of directors headed by Mr. P.P. Chhabria. The fact that 280 people have to be recruited does not mean that they would constitute a separate source of power to manage the Ratnagiri unit. They would also have to act only under the control and supervision of the board of directors, which is one and Shri K.P. Chhabria and Dr. Kane. There is no indication in the prospectus or anywhere in the record to show that the staff to be recruited would be reporting to a different board or a different authority in the hierarchy.
14. So far as the common business organization is concerned, the CIT has rejected the assessee's claim that there is a common business organization on the ground that an independent infrastructure is being set up by the assessee in the new project in Ratnagiri. He has also stated that since there is no common administration, there can be no common business organization. We have already held that the CIT was not right in saying that there is no common administration, in the sense, of common management. Further, the mere fact that an independent infrastructure was being set up in respect of the Ratnagiri unit does not mean that there is no common business organization. A project whose cost has been estimated to be around Rs. 350 crore and which is to be necessarily set up where there is a port so that the raw material for the manufacture of resins, viz., EDC (Ethylene Di Chloride) could be imported during the initial years and several infrastructure facilities have to be placed does not lead to the conclusion that there is no common business organization. On the contrary, the entire infrastructure required for setting up of Ratnagiri unit is taken care of only by the existing set up in the Chinchwad unit. It may be that some personnel may have had to be transferred to Ratnagiri and office premises and workshop, factory site, etc., had to be set up at Ratnagiri but all that is done only by the existing set up of the company. They have taken it up only as a part of their backward integration activity and the entire infrastructure is to be necessarily set up and managed only from Chinchwad. It is in this sense that there is a common business organization, despite the fact that the separate independent infrastructure is required to be set up at Ratnagiri. All instructions and decisions will have to be communicated only from the board of directors located in Chinchwad. Further, it is seen that the PVC resin manufactured in excess of the requirement of the pipe factory could be easily marketed through the existing dealer network in respect of the pipes and this advantage has obviated the need to set up a separate dealer network for marketing excess PVC. This would not have been possible unless there is a common business organization. The dealer network is common to both the pipes as well as the excess PVC resins proposed to be sold. Therefore, the CIT was not right in saying that there is no common business organization.
15. As regards the existence of common place of business, the CIT has stated that there is no common place since the pipe unit is located in Chinchwad and the PVC resins unit is located at Ratnagiri. We do not think that this was what was meant when the Supreme Court laid down that there should be a common place of business. The PVC manufacturing unit had to be put up near a port so that the EDC could be imported at least during the initial years. It was therefore not feasible for the company to put up the PVC resin unit in Chinchwad itself. These are decisions which are taken after considering several factors such as the financial implication, technical feasibility, environmental considerations, incentives given by the Government for locating industrial unit in backward area and so on. As already noted, the registered office of the assessee-company continues to be in Chinchwad, Pune, and it is from this office that the board of directors functions and supervises and controls both the Chinchwad unit and Ratnagiri unit.
We have already adverted to this aspect. Therefore, merely because the two units are situated at two different places, it cannot be said that there is no common place of business. The conclusion of the CIT to contrary cannot be upheld.16. The CIT has mentioned that the assessee acquired a separate industrial licence for setting up of PVC resin plant. These are the requirements of the industrial policy of the Government of India and it was incumbent upon the assessee to follow the same and make the necessary application as per the regulations. No decisive inference can be drawn therefrom. The fact that a separate industrial licence has to be obtained is not decisive of the question whether the Ratnagiri unit is an expansion of the same business or is a new business of the assessee.
17. The reliance placed by the CIT on the judgment of the Supreme Court in the case of Challapalli Sugars Ltd. (supra) is misplaced as can be seen from the judgment of the Gujarat High Court in the case of CIT v.Alembic Glass Industries Ltd. as well as from the judgment of the Madras High Court in the case of Sivakami Mills Ltd. v.CIT . In the case of CIT v. Shah Theatres (P) Ltd. (supra), the Rajasthan High Court had distinguished the judgment of Challapalli Sugars Ltd. (supra) and has held that it would apply only where the unit of the company is yet to be set up and would not apply to a case of running concern. The same distinction was made earlier by the Gujarat and Madras High Courts in the judgments cited supra.
Similar distinction was also recognized by the Karnataka High Courts in the case of CIT v. Insotex (P) Ltd. decisions have been referred to in the order of the Tribunal, Bombay Bench in the case of Tata Chemicals Ltd. v. Dy. CIT (2001) 70 TTJ (Mumbai) 805 : (2000) 72 ITD 1 (Mumbai) and it has been held in the aforesaid order that the judgment of the Supreme Court in the case of Challapalli Sugars Ltd. (supra) is not applicable where the expenditure is claimed in respect of a running concern and would apply only where the assessee has not started any business. Since we have held that the Ratnagiri unit is only an expansion of the existing business, the judgment of the Supreme Court in the case of Challapalli Sugars Ltd. (supra) is not attracted.
18. Shri Satya Prakash, the learned CIT-Departmental Representative, first submitted that the CIT had assumed the jurisdiction properly under Section 263. As regards the merits, he submitted that a new business has come into existence, on the basis of the findings of the CIT in paras 3 and 5 of his order. We have already held that the findings and conclusions recorded by the CIT cannot be upheld, for the reasons given by us earlier. Two judgments were cited by Mr Satya Prakash. The first is that of the Calcutta High Court in the case of Ashoke Marketing Ltd. v. CIT . In this case, the assessee was manufacturing instruments and commenced manufacturing of mini computers and micro-processors based system. For this new activity, no licence had been received. Further, the assessee did not produce any material before the Tribunal or the IT authorities to show that the manufacture of new item was part and parcel of the same business. There was only a mere assertion that there was unity of control between the different activities. The assessee was a small scale unit and the new item could be manufactured only in a large scale. The large scale unit required a licence which was not obtained by the assessee. Further, there was evidence to show in the directors' report the mini computers division and instrument division did not carry out any business activity. It was on the basis of these facts that the Calcutta High Court held that the assessee had not established its case that the new units were part of the existing business. As regards the judgment of the Kerala High Court in Travancore Chemical & Manufacturing Co. Ltd. v. CIT the question was whether the business set up by the assessee during the relevant assessment year was a separate business or the same business so that the interest in relation thereto could be allowed as a deduction. It was found that the new business was one in respect of which the assessee had claimed deduction under Section 80J on the footing that it was a separate industrial undertaking. The Kerala High Court held that the decision of the Tribunal was based on the facts found which cannot be considered to be perverse. It will thus be seen that the judgments of the Calcutta and Kerala High Courts stand on the special facts, viz., that the assessees in those cases were unable to furnish the relevant material in support of their claim. The case before us is not of this type. We have referred to the ample material brought on record by the assessee in support of its claim that the Ratnagiri unit forms part of the existing business of the assessee. These judgments are, therefore, not applicable.
19. It may also be noted that the order of the Tribunal, Bombay Bench, in the case of Tata Chemicals Ltd. (supra) was carried in appeal by the Revenue to the Hon'ble Bombay High Court, but the appeal was not admitted on the ground that no substantial question of law arose out of the Tribunal order. The judgment of the Bombay High Court is reported in CIT v. Tata Chemicals Ltd. . It is understood that the SLP filed by the Revenue against the judgment of the Hon'ble Bombay High Court has also been rejected. We may also notice that with regard to the asst. yr. 1990-91, the expenditure of Rs. 21,99,000 representing payment made to MSEB for laying high tension power supply lines and the cost of poles in connection with the Ratnagiri unit was allowed by the CIT(A) vide order dt. 21st Jan., 1994 a copy of which has been filed in the paper book. It is seen that the CIT(A) has allowed the payment following the judgment of the Hon'ble Bombay High Court in the case of CIT v. Excel Industries Ltd. . Against the order of the CIT(A), no appeal was filed by the Department to the Tribunal, as stated before us on behalf of the assessee. Further, for the asst. yr.
1990-91 the AO himself allowed the interest paid on the debentures issued by the assessee in connection with the Ratnagiri project.
Therefore, the Departmental authorities themselves, appear to have accepted the claim that the Ratnagiri project cannot be considered as a separate or new business of the assessee. Their action in allowing the aforesaid expenditure indicates that they have accepted the position that the Ratnagiri project forms part of the existing or same business of the assessee.
20. For the above reasons, we are unable to accept the findings of the CIT that the expenditure of Rs. 4,20,01,111 should be considered as pre-operative expenses since the PVC resin project in Ratnagiri District did not commence production as on 31st March, 1991. The conclusion of the CIT that the pre-operative expenses cannot be allowed as a deduction emanates from the fundamental decision that the Ratnagiri project is new unit and constitutes a separate business of the assessee. Since we have held that the Ratnagiri unit must be considered as a part of the same business of the assessee and not a new business, the conclusion of the CIT that the amount of Rs. 4,20,01,111 should be considered as pre-operative expenses and to be disallowed on that basis cannot be upheld.21. In the result, the order of the CIT passed under Section 263 is set aside the appeal is allowed.
22. This appeal by the assessee relates to the asst. yr. 1991-92 and arises, out of the assessment made by the AO under Section 143(3) of the Act by order dt. 29th March, 1994.
23. The first ground relates to the disallowance of the expenditure of Rs. 10,29,98,005 incurred in connection with the issue of debentures for part financing of the Ratnagiri project of the assessee. Page 49 of the paper book gives break-up of the aforesaid expenditure and it is as under:Underwrite commission 4,30,74,414Brokerage incentives and gifts 1,69,15,282Brokerage commission/fees 1,50,81,582Advertisement 1,35,93,221Fees paid to financial institutions and banks 52,00,000Printing and stationary 40,72,077Hotel stay bills of dealers & othersand travelling 9,69,491Payments to/for postage/contractor 9,58,523Meeting for public issue 1,74,022Dealers and brokers conference 1,51,639Gifts 45,520Hire charges/delivery charges 1,83,850Provision for expenses 22,01,112Managers/Co-Managers fees 2,42,305Miscellaneous expenses 1,35,020 -------------- 24. The AO has discussed this issue in paras 4 to 11 of the assessment order. The assessee did not debit the aforesaid expenditure to the P&L a/c but had claimed the same as deduction in the computation of total income enclosed with the return. In support of the claim, the assessee relied on the judgment of the Supreme Court in the case of India Cements Ltd. v. CIT . It was submitted that the debenture issue was in connection with vertical expansion for manufacture of PVC resin which was a major raw material for the mature of PVC pipes and fittings.
25. The AO observed that the judgment of the Supreme Court cited above was clearly distinguishable, inasmuch as in that case the expenditure was only a meagre amount of Rs. 84,633 whereas in the present case, the expenditure is of Rs. 10.29 crores for raising debentures of Rs. 118.95 crore which amounts to 8.5 per cent of the debenture issue. He further noted from the papers relating to the debenture issue that 26 per cent of the debentures were to be converted into the equity in a period of 18 months and the balance of 74 per cent was to be redeemed after 10 years. According to him, the funds were raised for financing the Ratnagiri project for manufacturing PVC resin which was an entirely new product line embarked upon by the assessee. The assessee never manufactured PVC resin earlier. Under these circumstances, he considered the expenditure to be of capital account and disallowed the same. The assessee, would appear to have relied on Circular No. 56, dt.
19th March, 1971 issued by the Board wherein it was mentioned that the judgment of the Supreme Court in the case of India Cements Ltd. (supra) would continue to apply notwithstanding the provisions of Section 35B relating to amortization of the expenditure. The AO took the view that the debenture issue expenses were not allowable either under the ratio of the above judgment nor were they covered by any other provision of the IT Act.
26. The CIT(A) having confirmed the disallowance, the assessee is in further appeal before the Tribunal.
27. We have considered the rival contentions and the facts relating to the controversy. We have already held, in the assessee's appeal against the order under Section 263 passed by the CIT for the asst. yr. 1991-92 (the same assessment year) that the Ratnagiri project cannot be considered to be a separate or new business and that it should be considered as part of the exiting business of the assessee. We have given detailed reasons for our conclusion. Since the disallowance of the debenture issue expenses is based on the ground that it relates to a new or separate business started by the assessee, which ground has been held by us to be unsustainable in our decision in the appeal against the order of the CIT under Section 263, in line therewith, we hold that the debenture issue expenses is clearly allowable as business expenditure, respectfully following the ratio of the judgment of the Supreme Court in the case of India Cements Ltd. (supra). The fact that the expenditure in that case was meagre whereas the expenditure in the present case is very substantial, can make no difference to the ratio or principle laid down in the judgment.
28. In the course of argument, it was pointed out on behalf of the Department that at least 26 per cent of the expenses should be disallowed as capital because this percentage of the debenture was to be converted into equity in 18 months. On behalf of the assessee, our attention was drawn to the order of the Bombay Bench of the Tribunal in the case of J.M. Share & Stock Brokers Ltd. (2004) 83 TTJ (Mumbai) 1052. A copy of the order was also filed. We have perused the same and we find that a similar objection of the Department in that case has been rejected by the Tribunal following the judgment of the Calcutta High Court in the case of CIT v. East India Hotels Ltd. . The Tribunal clearly held that the fact that a part of the debenture was to be converted into equity at a latter point of time cannot be decisive of the question. It was further held that what is to be seen is that at the time of issue of debentures they were only debentures. In the case before the Tribunal the date of conversion fell within the same accounting year. Even then the Tribunal held that this would not make any difference to the principle that what is to be seen is the factual position at the time of incurring of the expenses. In the present case, 26 per cent of the debentures was to be converted in 18 months. The conversion of the debentures was to take place at the end of 18 months from the date of allotment of convertible debentures.
This date does not fall in the previous year ended 31st March, 1990.
Therefore, the order of the Bombay Bench of the Tribunal cited above as well as the judgment of the Calcutta High Court cited above, apply with greater force to the present case.
29. We, therefore, delete the disallowance of Rs. 10,29,98,005 and allow the first ground.
30. The second ground relating to the expenditure on entertainment is dismissed as not pressed.
31. The third ground relates to the expenditure of Rs. 5,776 incurred on gift articles. After considering the orders of the IT authorities and the smallness of the amount, we see no reason to interfere.
32. The ground No. 4 relates to the disallowance of the claim of deduction of the gross liability of Rs. 3,94,28,780 in respect of premium payable on redemption of redeemable non-convertible debentures.
The assessee claimed the entire amount of premium payable at the time of reduction of the debentures (which is after 10 years) in the assessment year relevant to the accounting year for which the debentures were issued. The AO disallowed the same on the ground that it is not an ascertained liability. On appeal, the CIT(A) held, following the judgment of the Calcutta High Court in the case of CIT v.Tungabhadra Industries Ltd. and the Madhya Pradesh High Court in the case of M.P. Financial Corporation v. CIT (1986) 51 CTR (MP) 249 : (1987) 165 ITR 765 (MP) that the premium should be allowed on pro rata basis spread over the entire period of 10 years and accordingly directed 1/10th of the premium to be allowed in the assessment year under consideration. The assessee is in appeal contending that the entire liability should be allowed in the assessment year itself. It is also seen that the Department in its appeal has preferred a ground (ground No. 3) in ITA No. 721/Pn/1995 contending that even the pro rata allowance of the premium cannot be accepted. This issue is now settled by the judgment of the Supreme Court in the case of Madias Industrial Investment Corporation Ltd. v.CIT premium payable should be spread over the entire period in which the debentures have been issued and pro rata allowance should be given.
Respectfully following the judgment, we dismiss the assessee's ground, confirm the direction of the CIT(A). For the same reason, the Department's ground No. 3 in its appeal is also rejected.
35. The first ground in this appeal by the Department is that the CIT(A) erred in allowing the deduction of interest of Rs. 5,08,73,310 paid in respect of the debentures under Section 36(1)(iii) r/w Section 2(28A) of the Act. The ground further states that the debentures were issued in respect of the new PVC resin project (at Ratnagiri) which did not start functioning during the relevant previous year.
36. The facts in connection with this ground have already been narrated while disposing of the appeal of the assessee against the order passed by the CIT under Section 263 of the Act for the asst. yr. 1991-92 itself. We have held in that appeal that the PVC resin project at Ratnagiri cannot be considered to be a new business or separate business and that it should be considered as part of the existing business of the assessee. The learned CIT, Departmental Representative, referred to the judgment of the Supreme Court in the case of Challapalli Sugars Ltd. (supra). This decision was in fact relied upon by the CIT in his order passed under Section 263. In our decision in the assessee's appeal against the CIT's order, we have held that the aforesaid judgment of the Supreme Court does not apply to the facts of the present case.
37. The learned CIT-Departmental Representative, further relied on the Expln. 8 to Section 43(1) of the Act which was introduced with retrospective effect from 1st April, 1974. Section 43(1) defines "actual cost" for the purposes of Sections 28 to 41 of the Act. The said section says that the actual cost means the actual cost of the assets to the assessee reduced by that portion of the cost which has been met directly or indirectly by any other person or authority. The Expln. 8 was introduced by the Finance Act, 1986 with retrospective effect from 1st April, 1974. It is as under: For the removal of doubts, it is hereby declared that where any amount is paid or is payable as interest in connection with the acquisition of an asset, so much of such amount as is relatable to any period after such asset is first put to use shall not be included and shall be deemed never to have been included, in the actual cost of such asset.
38. It will be seen from the above that the Explanation dealt with entirely a different situation. It was introduced to thwart an attempt of some assessees to inflate the cost of assets by the amount of interest paid in respect of borrowings effected for acquiring the asset. The entire interest liability was capitalized and included in the cost of the asset and accordingly a higher deduction of investment allowance, development rebate, etc. were being claimed. In order to nullify this attempt it was provided that once the asset is put into use, any interest relatable to the period subsequent to the date of putting the asset to use shall not be included in figure of actual cost. The CBDT Circular No. 461, dt. 9th July, 1986 [(1986) 56 CTR (St) 1] explains the reason for introduction of the Explanation in the following words: 18.1 Under the existing provisions of Section 43(1) of the IT Act, "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. It was found that certain taxpayers supported by some Court decisions had resorted to a major change in accounting practice by capitalizing ' the interest paid or payable in connection with acquisition of an asset relatable to the period after such asset is first put to use.
This capitalization implies inclusion of interest in the actual cost of the asset for the purposes of claiming depreciation, investment allowance, etc. under the IT Act.
18.2 It is an accepted accounting principle that where an asset is acquired out of borrowed funds, the interest paid or payable on such funds constitutes the cost of borrowing and not the cost of the asset acquired with those funds. It is for this reason that as per the clear guidelines issued by the Institute of Chartered Accountants of India, the interest on moneys which are specifically borrowed for the purchase of a fixed asset may be capitalized only relating to the period prior to the asset coming into production, i.e., relating to the erection stage of the asset. However, once the production starts, no interest on borrowings for the purchase of such assets should be capitalized. In spite of these clear guidelines, as also the consistent view of the Department in this matter, some taxpayers had adopted a contrary stance and had capitalized such interest. The first decision in favour of this stance had been rendered on 13th May, 1974, in the case of CIT v. J.K. Cotton Spinning & Weaving Mills Ltd. . This decision as well as the subsequent decisions were contrary to the legislative intent. Hence, in order to enable the Government to collect the tax legitimately due to it for the earlier years, a clarificatory amendment to this provision has been made retrospectively from 1st April, 1974 and will, accordingly, apply in relation to the asst. yr. 1974-75 and subsequent years.
39. It will be seen from the above that the Explanation dealt with capitalization and prohibited capitalization of the interest after the asset is put to use. In the present case, we are not concerned with this situation. The question before us is whether the Ratnagiri project is a part of the assessee's existing business, so that the interest paid on the debentures can be allowed as a deduction under Section 36(1)(iii). Under this section any interest paid by the assessee in respect of capital borrowed for the purposes of the business is allowed as a deduction. The only question, therefore, is whether the Ratnagiri unit constitutes a part of the business of the assessee. We have already held that this unit cannot be considered to be a separate business and should be considered only as an expansion of the existing business and part of the same business. There is no dispute that the debentures were issued and the capital was raised in respect of the Ratnagiri project. If it is part of the existing business of the assessee, the interest paid is allowable as a deduction.
40. We may also notice that a proviso was added to Section 36(1)(iii) by the Finance Act, 2003 w.e.f. 1st April, 2004. The proviso is as under: Provided that any amount of the interest paid, in respect of capital borrowed for acquisition of an asset for extension of existing business or profession (whether capitalized in the books of account or not); for any period beginning from the date on which the capital was borrowed for acquisition of the asset till the date on which such asset was first put to use, shall not be allowed as deduction.
41. This proviso regulates the allowance of expenditure by way of interest even in respect of capital borrowed for expansion of the existing business by saying that the interest would be allowed as a deduction only from the date on which the asset is put to use and not before. This proviso has come into existence only from the asst. yr.
2004-05 and is not made retrospective in operation, either expressly or impliedly. Therefore, the legal position prior to 1st April, 2004 remains the same.
42. The Gujarat High Court in the case of Dy. CIT v. Core Healthcare Ltd. has considered the applicability of Expln. 8 to Section 43(1). It fully supports the assessee's stand. The Explanation has also been explained by the Hon'ble Bombay High Court in the case of CIT v. Rajaiam Bandekar . This also supports fully the assessee's stand that the aforesaid Explanation is not applicable to the present case.
43. We, therefore, hold that the CIT(A) was right in allowing the deduction in respect of the interest. The ground is dismissed.
44. The second ground relates to the allowance of 20 per cent given by the CIT(A) in respect of entertainment expenses considering the employees' participation. After hearing both the sides, we see no reason to interfere.
45. The ground No. 3 in the appeal is related to ground No. 4 in the assessee's appeal. It relates to the allowability of the premium payable on reduction of redeemable non-convertible debentures. We have already held while dealing, with the assessee's ground that the CIT(A) was right in directing the proportionate allowance which conforms to the judgment of the Supreme Court in the case of Madras Industrial Investment Corporation Ltd. v. CIT (supra). Accordingly, the decision of the CIT(A) is confirmed and the ground is rejected.
47. The first ground in this appeal is directed against the disallowance of the expenditure of Rs. 6,87,791 for commission and brokerage on underwriting and subscription of the debenture issue held in the financial year 1990-91. This issue has been decided by us in the appeal for the asst. yr. 1991-92 in ITA No. 575/Pn/1995. We have held that the expenditure is allowable as a deduction being revenue expenditure. Since the facts are same in respect of the controversy, following our decision for the asst. yr. 1991-92, we direct the AO to allow the expenditure as a deduction. The ground is allowed.
48. The second ground is directed against the disallowance of Rs. 18,508 being expenditure as presentation articles. After considering the rival submissions, and after going through the orders of the IT authorities, we see no reason to interfere. The disallowance is confirmed and the ground is dismissed.
50. The first ground is that the CIT(A) erred in deleting the disallowance of the expenses of Rs. 1,56,42,058 relating to the Ratnagiri project. It is contended that the Ratnagiri project was a new project and therefore, the expenditure incurred in connection therewith cannot be allowed as a deduction against the income of the assessee from the existing business. The expenditure in question consists of the following: 51. While deciding the assessee's appeal against the order of the CIT passed under Section 263 for the asst. yr. 1991-92, we have held that the similar items of expenditure/payment have to be allowed as a deduction on the ground that the Ratnagiri plant set up for manufacturing PVC resin is part of the existing business or the same business carried on by the assessee and is not a new or separate business. We have given detailed reasons for such conclusion. We have also noticed that for the asst. yr. 1990-91 similar payments/expenditure were allowed by the CIT(A) and no appeal was preferred by the Department to the Tribunal on this point. In line with our decision, we hold that the CIT(A) was right in allowing the expenditure relating to Ratnagiri project.
52. A perusal of the order of the CIT(A) shows that he has allowed the assessee's claim following the judgment of the Hon'ble Bombay High Court in. the case of Excel Industries Ltd. (supra) and held that the expenditure cannot be treated as capital expenditure. A perusal of the assessment order shows that the AO has disallowed the expenditure/payment by following the order of the CIT under Section 263 of the Act for the asst. yr. 1991-92. We have already noticed while disposing of the assessee's appeal against the order of the CIT under Section 263 of the Act for the asst. yr. 1991-92 that the CIT has taken a view that the expenditure represents pre-operative expenditure, i.e., they were incurred before the Ratnagiri unit commenced production and should therefore, be disallowed. This was based on the footing that the Ratnagiri unit was a separate business of the assessee. The CIT(A) does not appear to have gone into this question, viz., whether the Ratnagiri unit was a separate or new business of the assessee but appears to have rested his decision on the fact that the expenditure cannot be considered as capital expenditure. The Department has reiterated before us the ground that the expenditure should be disallowed for the reasons given by the AO. Be that as it may, since the reasons given by the AO for the disallowance are the same as those given by the CIT in his order under Section 263 for the asst. yr. 1991-92, our decision that the CIT(A) was right rests on the decision given by us in the assessee's appeal against the order passed by the CIT under Section 263, viz., that the Ratnagiri unit cannot be considered to be a separate or new business of the assessee. With this clarification, the ground No. 1 is dismissed.
53. The second ground is that the CIT(A) erred in deleting the disallowance of the interest paid on debentures issued for financing the Ratnagiri unit. The amount involved is Rs. 16,87,57,250. A reference is made in the ground to Section 36(1)(iii) r/w Section 2(28A) of the Act. We have already dealt with a similar ground in the Department's appeal for the asst. yr. 1991-92 in ITA No. 721/Pn/1995.
There, we have held that the debentures having been issued in connection with the Ratnagiri unit which was part of the existing business of the assessee, the interest thereon cannot be disallowed on the footing that it related to capital borrowed for the purpose of a separate or new business of the assessee. The impact of the Expln. 8 to Section 43(1) was also considered by us in that decision. We ultimately held that the interest was rightly allowed as a deduction. Since the facts are same for the year under appeal, in line with our earlier decision, we confirm the decision of the CIT(A) and dismiss this ground.
54. The ground No. 3 is connected with ground No. 2, in the sense that it is contended that the interest was not debited to the P&L a/c. The manner in which the accounts are drawn up or entries are made in the books of account of the assessee cannot regulate or control its allowance under the provisions of the IT Act. This aspect of the matter has been considered by the Supreme Court in the case of Tutlconn Alkali Chemicals & Fertilizers Ltd. v. CIT . It has been held that the manner in which the entries are made in the books of account does not govern the allowability of the expenditure. That is to be considered on an examination of the provisions of the law. We are, therefore, of the opinion that non-debit of the expenditure in the P&L a/c is not an impediment to the assessee being allowed the same as revenue expenditure. The ground is accordingly dismissed.
55. The ground No. 4 is against the direction of the CIT(A) to allow the proportionate liability relating to the year of account in respect of the premium payable on reduction of the debentures. A similar ground taken by the Department in its appeal for asst. yr. 1991-92 in ITA No.721/Pn/1995 has been rejected, following the judgment of the Supreme Court in the case of Madras Industrial Investment Corporation Ltd. (supra). Since the decision of the GIT(A) for the year under appeal is in conformity with the judgment of the Supreme Court, we confirm the same and dismiss the ground.