Completed contract method prevails for partly finished real estate projects; fixed deposit interest remains separately taxable and cannot be netted.

Real estate project income could not be forced to tax on the percentage completion method where the project was only about 16% complete, no units had been sold, and the assessee had followed the completed contract method; the addition on that basis was deleted. Interest earned on fixed deposits made out of surplus funds was separately assessable and could not be netted against interest payable on borrowed funds, particularly where project costs had already been capitalized. The cross appeals were dismissed, leaving the deletion of the project-income addition intact and maintaining separate tax treatment of the interest income.

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Issues: (i) Whether the project income from the real estate development activity could be brought to tax on the percentage completion method and the addition made on that basis could be sustained; (ii) whether interest earned on fixed deposits could be netted against interest payable on borrowed funds.

Issue (i): Whether the project income from the real estate development activity could be brought to tax on the percentage completion method and the addition made on that basis could be sustained.

Analysis: The project was only partly completed during the year, the construction stood at about 16%, no part of the project had been sold, and the completed portion had been leased on a long-term basis. The assessee had followed the completed contract method, and the surrounding facts showed that the income from the project had not accrued in the manner adopted by the Assessing Officer.

Conclusion: The addition based on the percentage completion method was not justified and was rightly deleted.

Issue (ii): Whether interest earned on fixed deposits could be netted against interest payable on borrowed funds.

Analysis: The fixed deposits were created out of the assessee's own surplus funds, while the project costs had been capitalized. In that situation, the interest earned on fixed deposits was separately assessable and could not be adjusted against interest payable.

Conclusion: Netting of the fixed deposit interest against interest payable was not permissible.

Final Conclusion: The cross appeals were dismissed, leaving the deletion of the project-income addition intact and sustaining the separate tax treatment of the interest income.

Ratio Decidendi: Where a real estate project is not substantially complete and the assessee has adopted the completed contract method, income cannot be forced to taxation on the percentage completion basis; interest earned from fixed deposits made out of surplus funds is separately assessable and cannot be netted against interest expenditure when the relevant project costs have been capitalized.

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