2011 (10) TMI 240 - AT - Income Tax

Conversion of land into Stock in Trade - Ao is of opinion that no business of real estate development actually carried on by the assessee - Held that - Assessee took number of steps such as passing special resolution to commence the said business - redevelopment of the land owned by the assessee company taking such steps makes land fit for redevelopment. - we are of the view that the business of real estate development was duly carried on by the assessee and the conversion of its property by the assessee into stock in trade of the said business as per the resolution passed by the Board of Directors on 29th May 2004 was as per the provisions of section 45(2). Computation of profit on conversion - held that - The profit or gains arising from the transfer by way of such conversion thus was chargeable to tax as the income of the assessee under the head Capital Gains of the year under consideration since the said stock in trade was admittedly sold by him in that year. - AO directed to recompute the capital gain by adopting the fair market value of the said property on the date of such conversion as full value of the consideration received or accruing as a result of transfer of the capital asset. Payment for change of user of land from Industrial to Commercial - Business Expenditure or Cost of Cost of Improvement - Since the expenditure was incurred prior to to date of conversion of land into stock in trade therefore it shall be allowed as Cost of Improvement. Set off of unabsorbed depreciation against the income of the current year - Held - Since the business of the assessee as carried on in the earlier years had been discontinued and the same was not carried on in the current year the claim of the assessee for set off of unabsorbed depreciation pertaining to earlier years cannot be allowed. Interest payment by Assessee Co. to its Holding Co.- Held that - the activity of closing down of earlier business had taken place in the earlier year and not in the year under consideration and its claim for deduction on account of interest paid to holding company therefore cannot be allowed in the year under consideration. - Decided against the assessee. Loan taken from Holding Company and advancing it to group concerns - Assessee cannot be held to be in the business of finance or money lending - Net Income to be taxed under Other Source . Set off of brought forward losses - assessee contended that he was entitled for set off of carried forward business losses against the said profit. In support of this contention he relied on the decision of Hon ble Supreme Court in the case of CIT v. Cocanada Radhaswami Bank Ltd. (1965 -TMI - 49308 - SUPREME Court). - held that - the land undisputedly was the capital asset of the assessee and the profit arising from transfer of the said capital asset by conversion into stock in trade cannot be treated as in the nature of profits of business of the assessee as sought to be contended by the learned counsel for the assessee. It was only the profit arising from sale of stock in trade that could be treated as profits of the business of the assessee of real estate development to the extent of difference between the sale price and fair market value of the land on the date of conversion as already held by us and to that extent only the assessee would be entitled to claim the set off of carried forward business losses. - matter remanded back to AO with direction. Claim of interest on the ground that loan amount offered to be taxes u/s 41(2) as deemed income - held that - disallowance made by the AO on account of interest and other expenses on the ground that the business in respect of which they had been incurred was not in existence in the year under consideration upheld.

Issues Involved:
1. Computation of long-term capital gains.
2. Deduction for amount paid for obtaining permission for change in user of land.
3. Set off of unabsorbed depreciation carried forward from earlier years.
4. Disallowance of interest paid by the assessee company to its holding company.
5. Classification of interest income.
6. Set off of carried forward business loss.
7. Disallowance of interest and other expenses.
8. Disallowance of legal and professional charges.
9. Addition of advance received from a developer.
10. Addition of notional commission income.

Issue-wise Detailed Analysis:

1. Computation of Long-term Capital Gains:
The assessee, a company previously engaged in manufacturing containers, claimed to have converted its factory land into stock in trade for real estate development. The A.O. rejected this claim, arguing that the conversion was invalid without government permission. The CIT(A) upheld the A.O.'s decision. However, the Tribunal found that the business of real estate development had commenced with various steps taken by the assessee, including obtaining permissions and passing resolutions. The Tribunal directed the A.O. to recompute the capital gains by adopting the fair market value of the property on the date of conversion.

2. Deduction for Amount Paid for Obtaining Permission for Change in User of Land:
The assessee paid Rs. 23 crores to the Government for changing the land use from industrial to commercial. The A.O. and CIT(A) disallowed the deduction. The Tribunal held that this amount constituted the cost of improvement and should be allowed as a deduction while computing the long-term capital gain, depending on the determination of the fair market value of the property on the date of conversion.

3. Set off of Unabsorbed Depreciation Carried Forward from Earlier Years:
The assessee claimed set off of unabsorbed depreciation from earlier years. The A.O. and CIT(A) disallowed the claim, citing the amended provisions of section 32(2). The Tribunal upheld this disallowance, following the decision of the Special Bench of ITAT in Times Guaranty Ltd.

4. Disallowance of Interest Paid by the Assessee Company to its Holding Company:
The assessee claimed a deduction for interest paid on a loan taken from its holding company. The A.O. and CIT(A) disallowed the claim, stating that the business for which the loan was taken had been discontinued. The Tribunal upheld the disallowance, noting that the loan was not utilized for any business carried on in the current year.

5. Classification of Interest Income:
The assessee earned net interest income from loans taken from its holding company and advanced to group companies. The A.O. and CIT(A) classified this income under "Income from other sources." The Tribunal upheld this classification, noting that the assessee was not in the business of finance or money lending.

6. Set off of Carried Forward Business Loss:
The assessee claimed set off of carried forward business losses against the current year's income. The A.O. and CIT(A) disallowed the claim. The Tribunal held that the income from the sale of stock in trade could be set off against carried forward business losses to the extent of the difference between the sale price and the fair market value on the date of conversion.

7. Disallowance of Interest and Other Expenses:
The assessee claimed deductions for interest and other expenses related to a discontinued business. The A.O. and CIT(A) disallowed the claim. The Tribunal upheld the disallowance, noting that the business was not in existence in the current year.

8. Disallowance of Legal and Professional Charges:
The assessee claimed a deduction for legal and professional charges paid for land valuation. The A.O. and CIT(A) disallowed the claim. The Tribunal upheld the disallowance, finding no evidence that the valuation was related to land development activity.

9. Addition of Advance Received from a Developer:
The A.O. added Rs. 2.38 crores received from a developer as part of the sale consideration. The CIT(A) deleted the addition, finding that the amount was a security deposit. The Tribunal upheld the CIT(A)'s decision, noting that the amount was not part of the sale consideration and was refunded to the developer.

10. Addition of Notional Commission Income:
The A.O. added a notional commission income of Rs. 2.66 crores for offering the property as collateral security. The CIT(A) deleted the addition, stating that notional income cannot be taxed. The Tribunal upheld the CIT(A)'s decision, noting that the commission was not actually accrued or agreed upon.

Conclusion:
The Tribunal provided a detailed analysis for each issue, upholding some of the A.O.'s and CIT(A)'s decisions while reversing others. The main points of contention involved the classification of income, the validity of business activities, and the applicability of deductions.

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