Project-linked fixed deposit interest must be capitalised where funds secure a bank guarantee and are not surplus.

Interest earned on fixed deposits kept only as security for a project-related bank guarantee, while the real estate project remained under challenge and the cancellation had not attained finality, had a direct nexus with the project and was not income from other sources. Because the funds were not surplus or independently deployed, the receipts were required to be capitalised to work-in-progress in line with the principles in Bokaro Steel and related authorities. The addition treating the interest as taxable was therefore not justified and was deleted.

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Issues: Whether interest earned on fixed deposits created as a mandatory pre-condition for furnishing bank guarantee in connection with a real estate project, and kept alive during pendency of challenge to project cancellation, was taxable as income from other sources or required to be capitalised to work-in-progress.

Analysis: The fixed deposits were not made as an independent deployment of surplus funds but were created solely to secure the bank guarantee required for the project. The bank guarantee continued during the relevant year, and the cancellation of the project had not attained finality. On these facts, the funds were not idle or surplus and retained a direct nexus with the project. The rule in Tuticorin Alkali Chemicals applies where surplus funds are independently invested to earn income, whereas receipts inextricably linked with the setting up or execution of a project are to be capitalised. The present case falls within the latter category and is consistent with the principles recognised in Bokaro Steel, Indian Oil Panipat Power Consortium, Chinna Nachimuthu Constructions, and Paramount Premises.

Conclusion: The interest income was inextricably linked with the project and was required to be capitalised to work-in-progress. The addition sustained by the appellate authority was not justified and was deleted in favour of the assessee.

Ratio Decidendi: Interest earned on fixed deposits maintained only to secure a project-related bank guarantee, where the funds are not surplus and remain integrally connected with an ongoing project, is not taxable as income from other sources and is liable to be capitalised to the project cost or work-in-progress.

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