2006 (3) TMI 263 - AT - Income Tax

Disallowance of Pre-Operative Expenses Upheld, Interest Capitalized, Section 35D Applicability Referred Back

Mac Industrial Products Limited. Versus Assistant Commissioner Of Income-tax, Central Circle - I(5), Chennai.

The case involved the confirmation of disallowance of pre-operative expenses, interest on term loan, and financial consultancy charges for a new ... Business Expenditure Issues Involved:1. Confirmation of disallowance of pre-operative expenses, interest on term loan, and financial consultancy charges.2. Interest payment towards the allotment of land by MMDA.3. Applicability of Section 35D to pre-operative expenses and financial consultancy charges.4. Determination of whether the expenses were for expansion of existing business or setting up a new business.Detailed Analysis:1. Confirmation of Disallowance of Pre-Operative Expenses, Interest on Term Loan, and Financial Consultancy Charges:The assessee, engaged in the distribution of steel tubes, PVC pipes, ball bearings, and manufacturing of storeware pipes, set up a new refractory project near Ahmedabad. The assessee claimed deductions for pre-operative expenses, interest on term loans, and financial consultancy charges for the assessment year 1994-95. The authorities below rejected these claims, treating the expenditures as capital in nature, asserting that the refractory project was a distinct business and not an extension of the existing business.The assessee relied on several judicial precedents, including the Supreme Court's decision in CIT v. Associated Fibre & Rubber Industries (P.) Ltd. [1999] 236 ITR 471, which allowed interest on borrowal for expansion as an allowable expenditure. However, the Assessing Officer and the Commissioner (Appeals) held that since the refractory unit was a new business distinct from the existing one, the expenses were capital in nature and not allowable as revenue expenditure.The Senior Vice-President, however, upheld the assessee's claim, citing the Supreme Court's decision in CIT v. Vegetable Products Ltd. [1973] 88 ITR 192, which favored the interpretation beneficial to the assessee when the provision is ambiguous.2. Interest Payment Towards the Allotment of Land by MMDA:The assessee paid interest of Rs. 16,016 to MMDA for the allotment of land. The authorities treated this expenditure as capital in nature, providing an enduring benefit to the assessee. The Commissioner (Appeals) upheld the decision, and the Judicial Member agreed, stating that the interest should be capitalized and considered for depreciation claims. The Senior Vice-President did not specifically address this issue but allowed the appeals in general.3. Applicability of Section 35D to Pre-Operative Expenses and Financial Consultancy Charges:The Commissioner (Appeals) also considered the alternative ground regarding the applicability of Section 35D to pre-operative expenses and financial consultancy charges. The issue was restored to the Assessing Officer for examination. The Judicial Member supported this view, emphasizing that the order of the Commissioner (Appeals) was justified.4. Determination of Whether the Expenses Were for Expansion of Existing Business or Setting Up a New Business:The core issue was whether the expenses were incurred for the expansion of the existing business or for setting up a new business. The Senior Vice-President's order did not provide a clear determination on this aspect, whereas the Judicial Member and the Third Member emphasized that the expenses were for setting up a new business. The Third Member referred to the jurisdictional High Court's decision in E.I.D. Parry (India) Ltd. v. CIT [2002] 257 ITR 253, which held that setting up a new project falls in the capital field and not as revenue expenditure. This decision was binding and led to the conclusion that the expenditures in question were capital in nature.Conclusion:In conclusion, the Third Member concurred with the Judicial Member, affirming that the expenses were capital in nature and not allowable as revenue expenditure. The appeals by the assessee were dismissed based on the majority opinion, and the orders of the revenue authorities were upheld. The interest payment to MMDA was to be capitalized and considered for depreciation claims. The applicability of Section 35D to pre-operative expenses and financial consultancy charges was to be examined by the Assessing Officer.