2010 (8) TMI 689 - HC - Income Tax

Capital expenditure or revenue expenditure - Deferment of revenue expenditure - Expenses incurred by the assessee on the replacement of membranes is a revenue expenditure or deferred revenue expenditure. - Held that - The assessing authority, the Commissioner of Income-tax (Appeals) as well as the Tribunal held that the expenditure was in the nature of capital expenditure, having regard to the fact that the item in question, i.e., membrane had life of three years and eight years. The item in question is an equipment without which manufacturing is not possible. It is not an expenditure of the nature which is exhausted immediately. There is no single or rigid test for holding an expenditure to be revenue or capital. Generally enduring benefit of an expense, i.e., trade test or new asset test or functional test may be employed for determining the expenditure to be capital or revenue depending upon the nature of the business carried and the nature of expenditure incurred. In the facts and circumstances of the case, the nature of expenditure cannot be held to be of revenue nature. - Decided against Assessee.

Summary

Issues Involved:
1. Nature of expenditure on replacement of membranes: Revenue or Capital.
2. Justification of the Tribunal in treating the expenditure as capital.
3. Relevance of the assessee's accounting treatment of the expenditure.
4. Classification of the amount due from PNFC as a 'doubtful debt.'
5. Justification of penalty proceedings under section 271(1)(c) of the Income-tax Act.

Issue-wise Detailed Analysis:

1. Nature of expenditure on replacement of membranes: Revenue or Capital:
The primary issue was whether the expenses incurred by the assessee on the replacement of membranes should be treated as revenue expenditure or deferred revenue expenditure. The assessee claimed that the expenditure was revenue in nature, as no new asset was created and it was necessary for the ongoing business. However, the Assessing Officer allowed only one-third of the expenditure as revenue, considering the membrane's life span of three years. This decision was upheld by the Commissioner of Income-tax (Appeals) and the Tribunal, which concluded that the expenditure provided an enduring benefit and thus could not be treated entirely as revenue expenditure for the year it was incurred.

2. Justification of the Tribunal in treating the expenditure as capital:
The Tribunal justified treating the expenditure as capital by emphasizing the membrane's role in the manufacturing process and its three-year lifespan. It was noted that the expenditure was not immediately exhausted and provided enduring benefits, making it capital in nature. The Tribunal referenced the Supreme Court's decision in Madras Industrial Investment Corporation Ltd. v. CIT, which introduced the concept of deferred revenue expenditure to be claimed over several years.

3. Relevance of the assessee's accounting treatment of the expenditure:
The Tribunal observed that the assessee had shown the expenditure on the replacement of membranes as deferred revenue expenditure in its books of account, spreading it over three years. This accounting treatment was considered relevant and supported the decision to allow only one-third of the expenditure as revenue for the current assessment year. The Tribunal cited the case of Amtrex Appliances Ltd., where a similar approach was adopted, emphasizing that the expenditure's enduring benefit justified its spread over multiple years.

4. Classification of the amount due from PNFC as a 'doubtful debt':
The assessee claimed an amount of Rs. 18,07,000 due from PNFC, which had been ordered to be wound up, as a doubtful debt. The authorities did not allow this claim, as the debts had not been written off. The Tribunal upheld this decision, indicating that the mere fact of PNFC's liquidation did not automatically classify the debt as doubtful without proper write-off procedures being followed.

5. Justification of penalty proceedings under section 271(1)(c) of the Income-tax Act:
The initiation of penalty proceedings under section 271(1)(c) was another issue. The authorities had ordered the initiation of these proceedings, but they were still pending. The Tribunal did not provide a detailed analysis of this issue, as it was not the primary focus of the appeals. However, the initiation of penalty proceedings was deemed justified based on the findings related to the nature of the expenditure and the doubtful debt claim.

Conclusion:
The High Court dismissed the appeals, agreeing with the findings of the assessing authority, the Commissioner of Income-tax (Appeals), and the Tribunal. The court concluded that the expenditure on the replacement of membranes could not be entirely treated as revenue expenditure due to its enduring benefit and the assessee's accounting treatment. The classification of the amount due from PNFC as a doubtful debt was also upheld, as the debts had not been written off. The initiation of penalty proceedings was deemed justified, though the final outcome of these proceedings was still pending. The court found no substantial questions of law in the appeals and, therefore, dismissed them.