2018 (1) TMI 81 - AT - Income Tax

Tribunal rules interest expenses not disallowed under Income Tax Act for Assessment Year 2007-08

The Tribunal overturned the Commissioner of Income-Tax (Appeals) decision and ruled in favor of the assessee. It found that there was no connection ... Reopening of assessment - interest disallowance u/s 36(1)(iii) - AR has contended that there was no extension of existing business and secondly, interest free funds in the shape of Share Capital & free reserves far exceeded the Capital Work-in-progress - Held that:- These contentions could nowhere be rebutted / controverted either by any of the lower authorities or Ld. DR before us. From the perusal of financial statements, it is quite evident that the interest free funds in the shape of Share Capital & Free Reserves far exceed the closing capital work-inprogress and moreover, the reserves & surplus has grown from 8053.44 Lacs to ₹ 10818.15 Lacs and therefore, a presumption has to be drawn that the CWIP was carried out by the assessee out of own interest free funds. The lower authorities could nowhere prove the nexus of borrowed funds with CWIP being carried out by the assessee despite being pointed out by the assessee before lower authorities. It is also uncontroverted fact that there was no extension of existing business by the assessee. Hence, we are unable to concur with the view taken by Ld. CIT(A) and therefore, inclined to reverse the same. Hence, by deleting the impugned additions, we allow assessee’s appeal. Issues:Disallowance of interest expenses in relation to capital work-in-progress under section 36(1)(iii) of the Income Tax Act, 1961.Analysis:Issue 1: Disallowance of interest expenses related to capital work-in-progressThe appeal by the assessee for Assessment Year 2007-08 contested the disallowance of interest expenses in relation to capital work-in-progress made by the Assessing Officer (AO) under section 36(1)(iii) of the Income Tax Act. The AO noted that the assessee debited interest expenditure of Rs. 2307.33 Lacs in the Profit & Loss Account, while the capital work-in-progress stood at Rs. 56.62 Lacs as per the Balance Sheet. The AO opined that proportionate interest expenditure related to capital work-in-progress should be capitalized. The assessee argued that it had not borrowed specific funds for the assets and hence no interest on capital work-in-progress should be capitalized. However, the AO calculated a proportionate interest of Rs. 43.20 Lacs and disallowed it under section 36(1)(iii).Issue 2: Decision of the Commissioner of Income-Tax (Appeals) [CIT(A)]The CIT(A) confirmed the action of the AO in making the disallowance under section 36(1)(iii) but directed a re-calculation based on an error pointed out by the assessee through a rectification application under section 154. The CIT(A) considered the appellant's claim that no interest was capitalized on capital work-in-progress due to not borrowing specific loans for it. The appellant highlighted the rectification application filed before the AO, pointing out an arithmetic error in the calculation of interest. The CIT(A) directed the AO to dispose of the rectification application as per the provisions of section 154 and to rectify the arithmetic error in the assessment order.Issue 3: Tribunal's DecisionThe Tribunal noted that the AO erred in computing the disallowance under section 36(1)(iii) as the average cost of funds and the rate of interest were incorrectly calculated. The Tribunal observed that the interest-free funds in the form of Share Capital & Free Reserves far exceeded the Capital Work-in-progress. It was evident from the financial statements that the reserves & surplus had grown, indicating that the capital work-in-progress was funded by interest-free funds. The Tribunal found no nexus between borrowed funds and the capital work-in-progress, and there was no extension of the existing business. Therefore, the Tribunal reversed the CIT(A)'s decision and deleted the impugned additions, allowing the assessee's appeal.In conclusion, the Tribunal allowed the assessee's appeal, emphasizing the lack of borrowed funds used for the capital work-in-progress and the sufficient availability of interest-free funds, leading to the reversal of the disallowance under section 36(1)(iii) of the Income Tax Act for Assessment Year 2007-08.