2025 (4) TMI 1092 - HC - Income Tax

Coal mining company wins deductions for mandatory community welfare expenses under National Coal Wage Agreement but loses on overburden removal costs

MP HC upheld Tribunal's decision allowing coal mining company's deductions for education, community development, sports/recreation, and social welfare ... Allowability of expenditures claimed as deductions by the assessee engaged in coal mining operations - Education Expenses - HELD THAT:- Tribunal noted that the assessee had been incurring expenditure on running of the institutions by three bodies which are running pan India schools i.e. Kendriya Vidyalaya Sangathan, DAV School Society and DPS Society and also that the liability to discharge the obligation towards education fell on the assessee in terms of National Coal Wage Agreement entered into with the employee union and the assessee which was enforceable under law both under the Indian Contract Act as well as Industrial Disputes Act and also that it was not a voluntary expenditure incurred by the assessee but was incurred to discharge its obligation in terms with National Coal Wage Agreement which bound the assessee statutorily to honour the said agreement arrived at with the union and therefore, the expenses incurred towards Education amounted to revenue expenses in running of the business of the assessee. We find that the aforesaid logic and justification given by the Tribunal does not suffer from any infirmity or illegality in view of the obligations upon the assessee in terms of National Coal Wage Agreements, and therefore, the expenses are in the nature of business expenses. Therefore, this issue is answered in favour of the assessee and against the Revenue and the order of the Tribunal is upheld whereby deduction towards education expenses has been allowed to the assessee. Community Development Expenses - The twin grounds considered by the Tribunal in the present case on the present question, i.e. commercial expediency to carryout welfare activities to reduce resentment and resistance to its coal mining activity and also that the welfare activities could not be carried out in piecemeal manner when some of the staff of the assessee was residing in these villages, in our considered opinion for both these reasons the expenditure incurred on the Committee development would lead to an expenditure incurred solely as business expenditure and is allowable as such. The liberty already granted by the Tribunal in the present case, to examine each item on case to case basis also saves the rights of the revenue because the assessing officer can verify each claim raised by the assessee on item to item and case to case basis subject to general principle that the expenses incurred to reduce resentment and resistance to the project by carrying out welfare activities and also that some of the staff for residing in the said villages, the deduction of expenditure cannot be faulted with. Therefore, this question is also answered in favour of the assessee and against the revenue. Sports and Recreation Expenses - Tribunal correctly held that the expenditure was necessitated by the National Coal Wage Agreement entered into between the management and the Union of employees. And further that so far as the incurring of the expenditure is concerned, that has already been accepted at the time of audit by statutory auditors including Comptroller and Auditor General of India (CAG). The Tribunal held that such expenditure incurred on indoor and outdoor games, sport kits, shoes, prizes, awards to participants, participation charges, hiring charges, tents, lightings, fitments, etc. are in accordance with para 10.8.0 of National Coal Wage Agreement and the assessee was under obligation to spend towards sports and recreation facilities to its employees and thus, the Tribunal held that upon principle such expenses is allowable as deduction from the gross income of the assessee. Expenses are having nexus with assessee’s business, because good physical health and mental condition of employees would improve business output and a happy employee would do a better job than another employee and therefore, there was commercial expediency in incurring the said expenses. This question is also answered in favour of the assessee and against the revenue. Environmental Expenses - Tribunal held that such expenditure cannot be treated to be capital expenditure with closed eyes because a tax authority must appreciate the manner and circumstances under which such expenditure is required to be incurred. So long as the expenditure has nexus with assessee’s business, then the next step is to test the expenditure on the touch-stone of capital or revenue expenditure. Tribunal held that since the Commissioner has not given any reasoning while disallowing the said expenditure as deduction, therefore, the matter was remitted by the Tribunal to the Assessing Officer to take a decision on merits. We do not find any error or perversity in the said approach adopted by the Tribunal. Social Welfare Expenses of Employees - Tribunal held that the expenditure had been necessitated by National Coal Wage Agreement and the expenditure had been audited by the statutory auditors as well as by CAG. Therefore, the Tribunal allowed the expenditure for which the details and evidence were placed before the Assessing Officer and disallowed that part for which no evidence was placed before the Assessing Officer nor before the Tribunal. The said allowance of expenditure in-principle does not suffer from any illegality or perversity and so far as allowing of part expenditure is concerned, it is purely in the realm of facts and does not amount to any substantial question of law. Therefore, we answer this question in favour of the assessee and against the revenue. Expenditure Towards providing LPG, Medical Camp, Transit Camp, etc. - Tribunal held that the expenditure incurred in providing LPG to the employees in lieu of coal, medical camp, transit camp expenses etc. have been incurred on account of obligations as per National Coal Wage Agreement. Tribunal also held that the expenses towards transit camp being revenue or capital nature and whether these are business expenses or these are the expenses, which can be said to be incurred on acquiring the lease or acquiring the rights on land so as would amount to capital expenditure need to be re-examined by the Assessing Officer to take a decision de-novo on merits after examining all the relevant material. As there is no mandatory order against the revenue or in favour of assessee at this stage and the matter has only been remanded to the Assessing Officer to re-examine the claims whether the amount to capital or revenue expenditure, after hearing learned counsel for the parties. Therefore, we find that no substantial question of law arises in the matter on this issue. Additional Depreciation for Machineries - Tribunal has correctly held that the assessee was entitled to additional depreciation, because the Nigahi Project of assessee was a separate industrial undertaking engaged in production of article or thing, i.e. Coal and such production during the year had increased for more than 20% and therefore, the assessee was entitled for additional depreciation, which was found to be as per the decision of Sesa Goa Ltd [2004 (11) TMI 14 - SUPREME COURT] and Textile Machinery Corporation Ltd [1977 (1) TMI 3 - SUPREME COURT] Decided against the revenue. Overburden Removal - Though Coal may be available in the Coal mine, but once a seam/layer of Coal has been extracted, then the mine stands exhausted and it has to be revived by removing the overburden, therefore, for the resumption of actual mining work. Therefore, it is a preparatory activity to resume mining, and not mining, per se. Removal of layer of overburden to expose the next coal seam after the mine has closed upon exhausting earlier coal seam amounts to revival and extension of business because otherwise the business has to be closed down. It is not an expenditure in the nature of extraction of coal or working of mine but it is an expenditure in the nature of further development of mine or extension and revival of mine. In our opinion, the distinction accepted by the Tribunal in treating overburden expenses incurred till the stage of mine reaching 25% of its annual rated capacity, has no sanctity in law and is an artificial distinction only based on accounting practice of the respondent assessee and nothing else. Therefore, we answer this substantial question of law in favour of the revenue and against the assessee and hold that expenses for removal of overburden at any stage of mine after it has been allotted to the mining company would amount to an expenditure in the nature of capital expenditure and not an expenditure in the nature of revenue expenditure and therefore, it would be allowed only as a capital expenditure. Decided in favour of the Revenue by holding it to be an expenditure of capital nature irrespective of the stage of mining. 1. ISSUES PRESENTED and CONSIDEREDThe core legal questions considered by the Court in this batch of appeals under Section 260-A of the Income Tax Act, 1961, primarily revolve around the nature and allowability of various expenditures claimed as deductions by the assessee engaged in coal mining operations. The substantial questions of law framed and considered include:Whether the Tribunal was justified in holding overburden removal (OBR) expenses as revenue expenditure rather than capital expenditure, especially considering the stage of mine development and production capacity.Whether expenses incurred towards education, community development, social welfare, sports and recreation, environmental afforestation, transit camps, and medical facilities qualify as allowable business expenditures under Section 37 of the Income Tax Act.Whether the assessee is entitled to additional depreciation on machinery used in mining activities, despite the contention that coal extraction does not amount to manufacturing under the Act.Whether the accounting treatment adopted by the assessee for overburden removal expenses, differentiating between development and revenue mine stages based on 25% production capacity, is legally sustainable.Whether the expenditure on overburden removal after commencement of commercial production is deductible under Section 35-E or Section 37, and whether the Tribunal's reliance on precedents and accounting policies was appropriate.Whether the absence of specifically framed substantial questions of law in some appeals precludes their hearing, given the commonality of issues with other appeals.2. ISSUE-WISE DETAILED ANALYSISA. Overburden Removal (OBR) ExpensesLegal Framework and Precedents: The primary legal provisions involved are Section 35-E and Section 37 of the Income Tax Act, 1961. Section 35-E provides for deduction of expenditure incurred on prospecting, extraction or production of minerals, subject to certain conditions, generally relating to development mines. Section 37 allows deduction of any expenditure (not being capital expenditure or personal expenditure) incurred wholly and exclusively for the purpose of business.Precedents considered include judgments of the Supreme Court in Pingle Industries, Kirkend Coal Co., Empire Jute Co., and R.B. Seth Moolchand Suganchand, which elucidate tests distinguishing capital and revenue expenditures, with particular emphasis on enduring benefit, nature of business, and the purpose of expenditure.Court's Interpretation and Reasoning: The Court analyzed the nature of open-cast coal mining and the role of overburden removal. It distinguished between initial overburden removal to reach the first coal seam (development activity) and subsequent removal of overburden to access successive coal seams. The assessee's accounting practice treated OBR expenses up to 25% of rated annual production capacity as capital (development mine stage) and thereafter as revenue expenditure (revenue mine stage).The Court rejected the accounting-based distinction, finding no statutory backing for the 25% production capacity threshold as a legal marker between development and revenue mine stages. It held that removal of overburden after exhausting a coal seam is a capital activity as it revives or extends the mine, creating an enduring asset for the business. This reasoning was supported by the definition of 'development' in the Mineral Conservation and Development Rules (though not applicable to coal mines, used by analogy), which includes removal of overburden as preparatory to mining.The Court distinguished the activity of stowing (filling hollows in underground mines) from overburden removal in open-cast mines, noting that stowing is a revenue expenditure as it facilitates extraction without creating new capital assets, whereas overburden removal exposes new coal seams, enhancing the capital value of the mine.The Court also critically examined the Calcutta High Court's precedents relied upon by the Tribunal, which held OBR as revenue expenditure, and found them not legally sustainable in light of the Supreme Court's authoritative rulings.Key Evidence and Findings: The Court noted the continuous nature of OBR in open-cast mining, the phases of mining, and the necessity of removing overburden to access successive coal seams. The Court emphasized that once a coal seam is exhausted, the mine is effectively closed unless overburden is removed to expose the next seam, which amounts to development or capital expenditure.Application of Law to Facts: Applying the principles from Supreme Court precedents, the Court concluded that OBR expenses after the initial development stage remain capital in nature, as they create enduring benefit and revive the mine. The accounting practice adopted by the assessee was held to be an artificial distinction without legal foundation.Treatment of Competing Arguments: The Revenue argued that all OBR expenses are capital as they relate to development of the mine, irrespective of the stage, and that the Tribunal erred in treating post-25% capacity expenses as revenue. The assessee contended that post-25% capacity OBR expenses are revenue as they relate to working the mine. The Court sided with the Revenue, rejecting the accounting-based distinction and affirming the capital nature of all OBR expenses.Conclusion: The Court held that all OBR expenses incurred after the mine allotment are capital expenditures and not allowable as revenue deductions under Section 37. The distinction based on 25% production capacity is rejected.B. Education ExpensesLegal Framework: Section 37(1) of the Income Tax Act allows deduction of business expenses incurred wholly and exclusively for business purposes.Court's Reasoning: The Tribunal found that education expenses were incurred under statutory obligation arising from National Coal Wage Agreements with employee unions, obliging the assessee to provide education facilities for employees' children through established institutions. The Court upheld the Tribunal's view that such expenses are revenue in nature, being necessary for business and not voluntary charity.Conclusion: Education expenses incurred under contractual and statutory obligations are allowable as business expenditure.C. Community Development ExpensesLegal Framework and Precedents: Section 37(1) and principles of commercial expediency govern the allowability of community development expenses.Court's Reasoning: The Court accepted the Tribunal's reasoning that community development expenses were incurred to maintain peace and harmony in the local population, which was essential for smooth mining operations. The Court also accepted that such expenses benefit the employees residing in the area and cannot be segregated piecemeal. Reliance was placed on the Supreme Court's decision in K. Ravindranathan Nair, which recognized expenditure incurred to resolve industrial disputes as business expenditure.Conclusion: Community development expenses incurred for commercial expediency and business necessity are allowable deductions.D. Sports and Recreation ExpensesCourt's Reasoning: The Court upheld the Tribunal's finding that expenses on sports and recreation were incurred under statutory obligations (National Coal Wage Agreement) and were necessary for employee welfare, which in turn improved business output by maintaining employee health and morale.Conclusion: Such expenses are business expenses deductible under Section 37.E. Environmental Expenses (Afforestation)Court's Reasoning: The Tribunal remanded the matter to the Assessing Officer for detailed examination, noting that afforestation on leased land was necessary to restore the environment and was connected to business operations. No conclusive finding was made, and no substantial question of law arose.F. Social Welfare Expenses (Canteen, Hostels, etc.)Court's Reasoning: The Tribunal allowed expenses supported by evidence and disallowed those unsupported. The Court found no illegality in this fact-based approach.G. Expenditure on LPG, Medical Camps, Transit CampsCourt's Reasoning: The Tribunal allowed deductions on principle that these expenses arose from statutory obligations under National Coal Wage Agreement and were connected to business. However, the nature of transit camp expenses (capital or revenue) was remanded for fresh examination.H. Additional Depreciation on MachineryCourt's Reasoning: The Tribunal allowed additional depreciation on machinery used in mining, relying on Supreme Court precedents that mining operations producing articles (coal) qualify for such benefits. The Court found no infirmity in this approach.I. Preliminary Objections on Framing of Substantial Questions of LawCourt's Reasoning: The assessee contended that appeals without separately framed substantial questions of law should be dismissed. The Court rejected this hyper-technical objection, noting that common questions of law were framed in connected appeals and parties agreed to joint hearing. The Court distinguished the present facts from a Supreme Court precedent where lack of framing was fatal, emphasizing that the present appeals were admitted and heard with consent.3. SIGNIFICANT HOLDINGS'The question has arisen in the present case whether the expenditure incurred in over burden removal is a revenue expenditure or a capital expenditure to be claimed under Section 37 of Act of 1961.''Once a layer of over burden is removed and coal seam is reached then the entire expenditure incurred in exhausting the coal seam would be a revenue expenditure because it would be a expenditure in the nature of working of mines or producing the product of the mine which is the mineral (Coal). However, once the seam is exhausted then the mine comes to an end either in that pit or in that unit, but the fact is that no further mining of coal is possible unless the next seam of over burden is removed. Therefore, to reach the next seam of coal it would be a development activity of mine whereby the mine would be revived and restored, and not an activity of working the mine.''The distinction accepted by the Tribunal in treating overburden expenses incurred till the stage of mine reaching 25% of its annual rated capacity, has no sanctity in law and is an artificial distinction only based on accounting practice of the respondent assessee and nothing else.''The activity of removal of overburden or unproductive waste material is preparatory to mining and not is an activity of mining.''The tests to distinguish capital and revenue expenditure are not conclusive and no formula can provide a quick fix solution in each case. The question has to be judged in the context of business necessity and expediency.''Expenditure incurred to discharge statutory obligations under National Coal Wage Agreement for education, community development, sports and welfare expenses are allowable as business expenditure.''The absence of separately framed substantial questions of law in some appeals does not preclude their hearing when common questions are framed in connected appeals and parties agree to joint hearing.'Final determinations on each issue:Overburden removal expenses at any stage after mine allotment are capital expenditure and not allowable as revenue deduction under Section 37.Expenses on education, community development, sports and recreation, social welfare, and medical camps incurred under statutory obligations are allowable as business expenditure.Additional depreciation on mining machinery is allowable.Environmental afforestation and transit camp expenses require further factual examination; no conclusive legal question arises.Accounting methodology based on 25% production capacity to distinguish capital and revenue expenses lacks legal foundation.Preliminary objections on framing of substantial questions of law are rejected.