Interest on borrowings for machinery deductible under s.36(1)(iii) before asset use; capitalisation doesn't bar deduction

HC dismissed the appeals and upheld the Tribunal's allowance of interest under s.36(1)(iii) on borrowings for acquisition of machinery even though the machinery was not yet put to use or production. The court held that s.36(1)(iii) permits deduction of interest on capital borrowed for business purposes without a temporal cut-off before asset use; capitalisation in books does not preclude the deduction. Explanation 8 to s.43(1) does not curtail s.36(1)(iii). Section 37 was inapplicable to capital expenditure, so the interest was deductible while computing business income.

---

---

Issues Involved:
1. Allowability of interest on borrowing made for acquisition of capital assets u/s 36(1)(iii) of the Income-tax Act, 1961.
2. Treatment of capitalized expenses in the books of account.
3. Applicability of Explanation 8 under section 43(1) of the Income-tax Act, 1961.

Summary:

Issue 1: Allowability of Interest on Borrowing u/s 36(1)(iii)
The core issue was whether the interest on borrowings made for the acquisition of capital assets, pertaining to the period before the commencement of production, is allowable as a deduction u/s 36(1)(iii) of the Income-tax Act, 1961. The Tribunal concluded that the interest payment of Rs. 1,56,76,000 was allowable as a deduction under section 36(1)(iii). The High Court upheld this view, emphasizing that the interest paid in respect of capital borrowed for the purposes of business is allowable, regardless of whether the borrowing is for acquiring a capital asset or for revenue purposes.

Issue 2: Treatment of Capitalized Expenses
The assessee had capitalized certain expenses, including interest, in its books of account but later claimed them as revenue expenses in the revised return. The Assessing Officer and the Commissioner (Appeals) disallowed these claims, stating that once capitalized, these expenses could not be deducted as revenue expenses. However, the Tribunal, supported by the High Court, found that the treatment of expenses in the books of account is not determinative of their nature for tax purposes.

Issue 3: Applicability of Explanation 8 under Section 43(1)
The Revenue argued that Explanation 8 under section 43(1) mandates the capitalization of interest paid before an asset is first put to use. The High Court clarified that Explanation 8 only prevents the inclusion of interest paid after the asset is first put to use in the actual cost of the asset. It does not preclude the deduction of interest under section 36(1)(iii) for the period before the asset is put to use. The Court emphasized that the provisions of section 36(1)(iii) and Explanation 8 under section 43(1) operate in different fields and should not be conflated.

Conclusion:
The High Court dismissed the appeals, confirming that the Tribunal did not err in allowing the deduction of interest on borrowings for the acquisition of capital assets under section 36(1)(iii) of the Income-tax Act, 1961. The Court held that the interest is deductible even if it pertains to a period before the asset is put to use, provided the borrowing is for the purposes of business. There was no order as to costs.

---