Deductibility of interest on borrowed capital: interest for acquiring shares is allowable if incurred solely to earn income, even absent dividends.

Interest on borrowings for acquisition of shares was held not deductible as business expenditure because the share purchase was an investment, not a step in carrying on the transport business; consequently section 10(2)(iii) treatment was rejected. The court applied the purpose test for expenditure under section 12(2), holding that interest voluntarily and commercially incurred solely for earning income from other sources is allowable even if no income (dividend) arises in the same year; the resulting loss may be set off under the loss set-off provision. The reference was answered in favour of the assessee on these points.

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Issues: Whether the interest payment of Rs. 7,500 attributable to the holding of shares in Southern Transports Ltd. is a deductible expenditure under the Income-tax Act, 1961 (either as business expenditure under section 10(2)(iii) or as expenditure for earning income under section 12(2)).

Analysis: The court examined whether the purchase of shares formed part of the assessee's transport business so as to bring interest on borrowings within section 10(2)(iii). The court held that the assessee was not a dealer in shares and the acquisition of shares in Southern Transports Ltd. was not a necessary or incidental step in carrying on his bus business but rather an investment; therefore the interest could not be allowed under section 10(2)(iii). The court then considered deduction under section 12(2) for expenditure incurred solely for the purpose of making or earning income from other sources. Noting authority that an expense need not be profitable or accompanied by actual receipts to be deductible if it was incurred solely for earning income, the court followed decisions permitting interest on borrowed capital used to acquire shares to be treated as allowable under section 12(2) and as a loss available for set-off under section 24(1) when no income under section 12 was received in the year. The court rejected contrary views that the mere absence of dividend income in the year negates the claim for deduction.

Conclusion: The interest payment of Rs. 7,500 is not deductible under section 10(2)(iii) but is a proper deduction under section 12(2) of the Income-tax Act, 1961; insofar as there was no income under section 12 in the relevant year, the resulting loss is available for set-off under section 24(1). The reference is answered in favour of the assessee.

Ratio Decidendi: Expenditure (including interest on borrowed capital) voluntarily and commercially incurred solely for the purpose of making or earning income is deductible under section 12(2) even if no income by way of dividend or receipts arises in the same year; absence of such income does not bar the allowance and the resultant loss can be set off under section 24(1).

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