2004 (10) TMI 53 - HC - Income Tax

Interest on Pre-Use Assets Not Tax-Deductible

JCT Ltd. Versus Deputy Commissioner of Income-Tax And Another.

The court held that interest paid on borrowed capital for acquiring plants and machineries before they are first put to use is not deductible under ... Interest paid on the borrowed capital under a deferred payment scheme for acquisition of plants and machineries - benefit of section 36(1)(iii) or section 37 – Held that the interest paid on the borrowed capital under the deferred payment scheme for the period relevant till the asset was first put to use would not be eligible for deduction under section 36(1)(iii) or section 37 since it is includible in the actual cost of acquisition of the asset till the asset was first put to use, in view of Explanation 8 to section 43(1) - Once the same comes within the purview of section 43(1), Explanation 8, deduction under section 36(1)(iii) or 37 cannot be claimed which stands clarified by the insertion of the proviso therein under the Finance Act, 2003. As such the assessee cannot claim any benefit of section 36(1)(iii) or section 37 in this case – appeal of assessee is dismissed Issues Involved:1. Deductibility of interest paid on borrowed capital under a deferred payment scheme for acquiring plants and machineries before they are first put to use.2. Applicability of Explanation 8 to Section 43(1) of the Income-tax Act, 1961.3. Relevance of various judicial precedents cited by both parties.4. Impact of the Finance Bill, 2003 on the interpretation of Section 36(1)(iii) and Section 37.Detailed Analysis:1. Deductibility of Interest:The primary issue is whether the interest paid on borrowed capital under a deferred payment scheme for acquiring plants and machineries, before they are first put to use, can be deducted under Section 36(1)(iii) or Section 37 of the Income-tax Act, 1961. The assessee argued that since the business had already commenced, the interest should be treated as a revenue expenditure. However, the Department treated it as capital expenditure, and this view was upheld by the Assessing Officer, the Commissioner of Income-tax (Appeals), and the Income-tax Appellate Tribunal.2. Explanation 8 to Section 43(1):Explanation 8 to Section 43(1) was inserted by the Finance Act, 1986, with effect from April 1, 1974. It clarifies that any interest paid after the asset is first put to use shall not form part of the actual cost of the asset. The court emphasized that Explanation 8 is clear and unambiguous, and it crystallizes the principle that interest paid before the asset is first put to use should be included in the actual cost of the asset, thus making it capital expenditure eligible for capitalization but not for deduction as revenue expenditure.3. Judicial Precedents:The court referred to various decisions to support its interpretation:- Challapalli Sugars Ltd. v. CIT and CIT v. Hindustan Petroleum Corpn. Ltd.: These cases established that interest paid before the commencement of production on borrowed capital for acquiring assets should be capitalized.- CIT v. Rajaram Bandekar and Allied Motors (P.) Ltd. v. CIT: These cases reinforced the principle that interest paid after the asset is first put to use cannot be included in the actual cost of the asset.- Escorts Ltd. v. Union of India: This case was distinguished as it dealt with double deductions and did not address the issue at hand.- CIT v. J.K. Industries (P.) Ltd., CIT v. Rajeeva Lochan Kanoria, Veecumsees v. CIT, CIT v. Sivakami Mills Ltd., CIT v. Kanoria Investments (P.) Ltd., CIT v. Western Bengal Coal Fields Ltd., CIT v. Associated Fibre and Rubber Industries (P.) Ltd., and Tetron Commercial Ltd. v. CIT: These cases were distinguished on facts and were not found relevant to the issue of interest paid before the asset was first put to use.4. Finance Bill, 2003:The Finance Bill, 2003, introduced a proviso to Section 36(1)(iii) effective from April 1, 2004, clarifying that interest paid on capital borrowed for acquiring an asset for the extension of existing business is not deductible until the asset is first put to use. The court noted that this proviso supports the interpretation of Explanation 8 to Section 43(1) and prevents double deductions.Conclusion:The court concluded that the interest paid on borrowed capital under a deferred payment scheme for the period until the asset is first put to use is not deductible under Section 36(1)(iii) or Section 37. This interest should be included in the actual cost of the asset, making it capital expenditure eligible for capitalization. The Tribunal's decision against the assessee was upheld.Order:The appeals were dismissed in favor of the Department, affirming that the interest is capital expenditure and not deductible as revenue expenditure. There was no order as to costs.