Agricultural income from seed sales is exempt, while common research costs must be apportioned between exempt and taxable activities.

Income from the sale of basic or foundation seeds is treated as agricultural income where the seeds are produced through primary and subsequent agricultural operations such as cultivation, watering, manuring and weeding, and the resulting receipts fall within section 2(1A) and are exempt under section 10(1). Where an assessee carries on both agricultural and commercial activities, common research and development expenditure cannot be fully deducted as business expenditure if part of it relates to exempt agricultural activity. In that situation, deduction is confined to the portion attributable to the taxable commercial division, with apportionment on a reasonable basis.

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Issues: (i) Whether income from sale of basic or foundation seeds was agricultural income exempt under section 10(1) of the Income-tax Act, 1961; (ii) Whether research and development expenditure was wholly deductible as business expenditure or had to be apportioned between agricultural and commercial activities.

Issue (i): Whether income from sale of basic or foundation seeds was agricultural income exempt under section 10(1) of the Income-tax Act, 1961.

Analysis: The basic seeds were found to be the product of agricultural operations involving primary and subsequent operations such as cultivation, watering, manuring and weeding. The income from their sale arose from the combined effect of human skill, labour and agricultural operations, and therefore fell within the statutory concept of agricultural income under section 2(1A).

Conclusion: The income from sale of basic or foundation seeds was agricultural income and was exempt under section 10(1) of the Income-tax Act, 1961, in favour of the assessee.

Issue (ii): Whether research and development expenditure was wholly deductible as business expenditure or had to be apportioned between agricultural and commercial activities.

Analysis: The assessee carried on distinct agricultural and commercial activities. The research expenditure was attributable to both divisions, and the statutory scheme under section 35(1)(i) read with section 43(4)(i) permitted deduction only to the extent that the expenditure related to scientific research connected with the business. Since part of the expenditure was connected with exempt agricultural activity, section 14A prevented allowance of that portion against taxable income. The proper course was therefore apportionment on a turnover basis, with deduction confined to the commercial division's share.

Conclusion: The research and development expenditure was not wholly allowable; only the proportion attributable to the commercial division was deductible, in favour of the assessee only to that extent.

Final Conclusion: The revenue's appeals were rejected, while the assessee succeeded only in part on the allowability of research and development expenditure, which had to be restricted by proportionate allocation between the two divisions.

Ratio Decidendi: Where an assessee carries on distinct taxable and exempt activities and common expenditure relates to both, deduction is allowed only for the portion attributable to the taxable activity, while income directly generated from agricultural operations remains agricultural income exempt from tax.

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