2017 (3) TMI 73 - AT - Income Tax

Tribunal allows upfront premium deduction as revenue expenditure under mercantile accounting system

The Tribunal upheld the CIT(A)'s decision to allow the deduction of upfront premium as a revenue expenditure under the mercantile system of accounting. It ... Upfront premium on Zero Coupon Non-Convertible Debentures - revenue expenditure - interest on borrowed funds - mercantile system of accounting - rectification under section 154Rectification under section 154 - mercantile system of accounting - Whether the Assessing Officer could invoke rectification under section 154 to disallow the upfront premium already allowed in assessment. - HELD THAT: - The Tribunal held that recourse to section 154 for revisiting a debatable question of fact and law-namely whether advance payment of upfront premium is allowable under the mercantile system-was not appropriate. Such contested issues required detailed examination at the assessment stage under section 143(3) and could not be undone by a summary rectification order. The Tribunal therefore found the AO's exercise of section 154 to disallow the sum to be unjustified. [Paras 8]The order passed under section 154 to disallow the deduction was not justified and cannot be sustained.Upfront premium on Zero Coupon Non-Convertible Debentures - revenue expenditure - interest on borrowed funds - mercantile system of accounting - Whether the portion of upfront premium of Rs. 72,53,359/- pertaining to October 2005 to March 2006 is revenue in nature (interest) and deductible in AY 2006-07. - HELD THAT: - On the facts, the Tribunal accepted the assessee's case that the upfront premium was paid to reduce the effective premium/interest rate on ZCNCD borrowings and was not repayment of capital. The CIT(A) had found, on review of documents and consistent treatment in subsequent years, that the quantum claimed related to the relevant previous year and that the amount was in the nature of interest on borrowed funds and therefore revenue expenditure. The Tribunal endorsed this reasoning and noted that the assessee had apportioned the prepaid premium over the relevant period and claimed only the portion attributable to October 2005-March 2006 in AY 2006-07. [Paras 6, 8]The claimed portion of upfront premium is revenue expenditure in the nature of interest and was rightly allowed as a deduction for AY 2006-07.Final Conclusion: The Tribunal upheld the CIT(A)'s allowance of the upfront premium portion of Rs. 72,53,359/- as deductible revenue expenditure (interest) for AY 2006-07 and held that the Assessing Officer's rectification under section 154 was not justified; the revenue's appeal is dismissed. Issues involved:- Allowance of upfront premium paid by the assessee as a deduction- Disallowance of upfront premium paid in advance under the accrual method of accountingAnalysis:Issue 1: Allowance of upfront premium as a deductionThe Assessee, a company engaged in manufacturing and sale of tyres, claimed a deduction of Rs. 72,53,359/- as upfront premium on Zero Coupon Non-Convertible debentures for the period from April 2006 to March 2011. The Assessee had paid upfront premium to various Financial Institutions to reduce the premium rate from 13.50-13.75% to 9.00%. The Assessee maintained accounts on a mercantile basis and claimed only the portion of upfront premium pertaining to the period from Oct 2005 to March 2006 in AY 2006-07. The Assessing Officer (AO) allowed the claim initially but later disallowed it under Section 154 of the Income Tax Act, stating that upfront premium paid in advance cannot be allowed under the mercantile system of accounting.Issue 2: Disallowance of upfront premium under accrual methodThe Assessee contended that the upfront premium was a revenue expenditure, akin to interest on a loan, and not a repayment of debt. The CIT(A) upheld the Assessee's claim, stating that the expenditure was revenue in nature and well within the mercantile system of accounting. The CIT(A) noted that the Assessee had segregated the upfront premium over multiple assessment years and had claimed only the relevant portion for AY 2006-07. The Tribunal concurred with the CIT(A), emphasizing that the upfront premium was akin to interest on borrowing and had to be allowed as a deduction. The Tribunal held that the AO should have considered such debatable issues during the assessment process under Section 143(3) rather than resorting to Section 154 for disallowance.In conclusion, the Tribunal dismissed the revenue's appeal, upholding the CIT(A)'s decision to allow the deduction of the upfront premium as a revenue expenditure under the mercantile system of accounting. The Tribunal emphasized that the upfront premium was akin to interest on borrowing and was rightly claimed as a deduction for the relevant assessment year.