2008 (2) TMI 521 - AT - Income Tax

Tax Tribunal Decision: Deductible Demurrage Charges, Depreciation Rules, Section 80-IB(9) Deduction, Business Expenses Disallowed

The Tribunal upheld the CIT(A)'s decision to allow demurrage charges as deductible revenue expenditure, reduced disallowance of various expenses, treated ... Deductibility of demurrage as business expenditure - onus of proof for expenditure claims - allowability under section 42 - deduction for drilling and exploration expenses - classification of wells as 'building' or 'plant' for depreciation - depreciation rates on plant versus building - treatment of dry wells and prospecting/amortisation under section 35E - allowability under section 80-IB(9) - meaning of 'mineral oil' and eligibility - separate undertaking test for tax-holiday claims - allocation/quantification of administrative expenses for section 80-IB(9) - head office expenses under section 44C - interest under sections 234B and 234C - applicable rate and computationDeductibility of demurrage as business expenditure - Demurrage paid for delayed customs clearance is allowable as revenue expenditure wholly and exclusively for business. - HELD THAT: - The Tribunal agreed with the CIT(A) and the precedent relied upon that demurrage is a compensatory charge for use of port facilities beyond the free period and not a penal fine. Here delay in clearance was occasioned by delay in obtaining an essentiality certificate; commercial expediency required clearance after payment of demurrage. Consequently the payment retains the character of a business expense and is deductible. [Paras 4]Allow expenditure claimed as demurrage.Onus of proof for expenditure claims - Onus lies on the assessee to substantiate claimed business expenses; ad hoc disallowance was justified but the CIT(A)'s moderation was upheld. - HELD THAT: - Vouchers in respect of out-of-pocket, travelling/conveyance, welfare and miscellaneous expenses were kept disorderly and the assessee could not satisfactorily establish business purpose for all items. Applying settled precedent that the assessee must substantiate deductions, the AO's partial disallowance was warranted. The CIT(A) reduced the ad hoc disallowance from Rs. 10,00,000 to Rs. 5,00,000 considering the practical difficulties in producing voluminous vouchers; the Tribunal found that reduction not unreasonable and upheld it. [Paras 9, 10]Uphold disallowance reduced to Rs. 5,00,000.Allowability under section 42 - deduction for drilling and exploration expenses - No deduction under section 42 is allowable in the absence of allowances being specified and computed in the production-sharing contracts (PSCs) as required by s.42(1). - HELD THAT: - Section 42 permits, in lieu of or in addition to normal allowances, only such allowances as are specified in the agreement with the Central Government and must be computed in the manner specified in that agreement. The PSCs before the Tribunal did not specify such allowances nor the manner of computation. The expression 'allowable deductions' in art.15.3 of PSCs could not be read so as to import s.42 entitlements where the agreement was silent. Principles of strict construction of incentive or exceptional provisions and the plain language of s.42 were applied to deny the claim. [Paras 29, 32, 39]Deny deduction under s.42 for the claimed amounts.Classification of wells as 'building' or 'plant' for depreciation - depreciation rates on plant versus building - Gas/oil wells are to be treated as 'building' (as defined in the Rules) for the relevant period and attract the rate applicable to buildings. - HELD THAT: - Although earlier authorities had treated certain wells as plant under the functional test, the Rules' inclusive definition of 'building' (after amendment) expressly includes 'wells' and 'tube-wells'. Rules have force similar to statutory provisions and where the definition in the Appendix includes wells, that inclusive statutory meaning governs. The Tribunal accepted the functional description of wells but concluded that, postamendment, an oil/gas well falls within the extended statutory definition of 'building' and accordingly is not to be treated as plant for the higher rates of depreciation. Consequently the higher rate claimed by the assessee could not be allowed; where user during the year was less than 180 days the appropriate reduction applies. [Paras 60, 65]Treat wells as 'building' and allow depreciation at building rates (subject to proportion for period of use).Depreciation rates on plant versus building - Gas separator and floodlight masts are plant and qualify for depreciation at plant rates; dates of installation to be verified for 180day rule. - HELD THAT: - The gas separator performs a mechanical function of separating gas and oil and is a machine used in production; floodlight masts assist production activities and are not specifically included in the 'building' entry. On these facts the Tribunal treated those assets as plant and upheld depreciation at plant rates (25%), while directing that if put to use for less than 180 days the AO should allow half the applicable depreciation after verification. [Paras 69]Allow depreciation on gas separator and floodlight mast as plant @25%; AO to verify installation dates and apply 180day pro rata rule.Treatment of dry wells and prospecting/amortisation under section 35E - Expenditure on dry (unproductive) wells is not allowable as depreciation or under s.42 in the facts of this year; alternative claim for amortisation under s.35E remanded for consideration by the AO. - HELD THAT: - Dry wells were not put to use for production and were abandoned; consequently depreciation cannot be allowed. The Tribunal upheld the CIT(A)'s disallowance but observed that the assessee's alternative contention for amortisation under s.35E may be maintainable and accordingly remitted that limited question to the AO to decide in accordance with law after affording opportunity to the assessee. [Paras 75]Disallow depreciation on dry wells; remit the question of prospecting amortisation under s.35E to the AO for fresh consideration.Classification of landbased drilling platform, causeway and approach path - Approach path/causeway and escape bridge to the landbased drilling platform are to be treated as 'building' and attract building depreciation; the platform and related specialised platform works cannot be treated as plant for higher rates. - HELD THAT: - The platform supports multiple wells and involved reclamation and specialised construction. The approach road/bitumen causeway and escape bridge are ancillary structural works and fall within the extended meaning of 'building' in the Rules. The Tribunal agreed with the CIT(A) that the approach path and escape bridge should attract building rates and upheld the allowance of depreciation at 10% on those items. [Paras 78]Uphold treatment of causeway/escape bridge as building; allow depreciation @10%.Allowability under section 80-IB(9) - meaning of 'mineral oil' and eligibility - separate undertaking test for tax-holiday claims - allocation/quantification of administrative expenses for section 80-IB(9) - Natural gas is 'mineral oil' for the purposes of s.80-IB(9); individual wells or clusters (undertakings) may constitute separate undertakings for claiming the deduction; deduction was allowed for undertaking H2 and quantified after allocation adjustments. - HELD THAT: - After reviewing statutory definitions, related legislation and authoritative materials, the Tribunal held that 'mineral oil' includes natural gas and that s.80-IB(9) must be read accordingly. The Tribunal adopted the established tests for identifying an independent 'undertaking' (substantial fresh capital, capacity to earn independent profits, separate identity) and concluded that a single land well or cluster (here H2 comprising wells 6 and 7) can be an undertaking. The CIT(A)'s approach to quantify the deduction by allocating administrative expenses to the undertaking on a sales/production basis (rather than by investment) was accepted as the more appropriate method. The net deduction quantified by the CIT(A) (after the stated allocation) was allowed. [Paras 129, 143]Allow deduction under s.80-IB(9) for undertaking H2 (natural gas treated as mineral oil); direct AO to compute/allow amount as adjusted by the CIT(A)'s allocation (net claim allowed).Head office expenses under section 44C - Claim in respect of head office expenses under s.44C is consequential and to be dealt with by the AO on recomputation. - HELD THAT: - The Tribunal noted that the s.44C claim depends on the adjusted total income to be computed in the light of other decisions in the order and therefore left the quantification to the AO for appropriate computation.Left to AO to compute head office deduction under s.44C consequent to adjustments.Interest under sections 234B and 234C - applicable rate and computation - Interest under s.234B is to be computed at the rate prevailing on the first day of the assessment year (15% in this case); computation under s.234C to be reworked by the AO if necessary. - HELD THAT: - The Tribunal followed the principle that liability to interest crystallises as a consequence of the assessment process and the law in force on the relevant assessment date governs the rate. It held that the rate applicable on 1st April of the assessment year is to be applied (15% here). As to s.234C, the CIT(A) directed recomputation and the Tribunal remitted calculation to the AO to work out correct interest after verification. [Paras 162, 163]Apply 15% rate for s.234B interest; AO to recompute s.234C interest as directed.Business promotion expenditure - deductibility of payments to foreign embassy - Payment to the Canadian Embassy on 'Canada Day' is not allowable as business promotion; other hospitality/businesspromotion expenses partly allowed. - HELD THAT: - The Tribunal agreed with the CIT(A) that the payment to the Canadian Embassy was not shown to be a bona fide business promotion expense benefiting the assessee; the balance expenditure on hospitality lacked full particulars and only 50% was allowed as business promotion, in line with the CIT(A). [Paras 152]Disallow payment to Canadian Embassy; allow 50% of the remaining business promotion expenses claimed.Allowability of accommodation expenses for expatriate employees - Expenditure on residential accommodation for expatriate employees (guest house) is allowable as business expenditure; disallowance deleted. - HELD THAT: - Given the remote project locations and industry practice of providing accommodation to expatriate/project staff, and absent evidence of personal use, the Tribunal found the expenditure was incurred wholly and exclusively for business and deleted the ad hoc disallowance imposed by the authorities. [Paras 155]Allow full guest-house accommodation and maintenance expenses for expatriate employees.Final Conclusion: The Tribunal partly allowed the crossappeals: demurrage was held deductible; the ad hoc disallowance for travel/welfare/miscellaneous was sustained at the reduced figure of Rs.5,00,000; section 42 claims were denied for lack of specified allowances in the PSCs; oil/gas wells were treated under the Rules' definition as 'building' (building depreciation rates to apply, with pro rata for