2014 (11) TMI 655 - AT - Income Tax

Refusal to allow deduction of expenses Business not commenced during the previous year relevant to the assessment year Held that - The assesee formally signed contract with the NDMC on 08.03.2006, which falls in the preceding year - On 30.3.2006, the assessee entered into manufacturing agreement with Uttam Sucrotech International Pvt. Ltd. for manufacture and installation of BQSs and also made advance payment - In the preceding year itself, the assessee arranged for credit facility and obtained overdraft limit as well as term loan - A security deposit of ₹ 1 crore was paid to NDMC under the contract - All these activities took place in the preceding year - there is a basic fallacy in the appreciation of the concept of setting up of business - the business of a building contractor is set up on his having all the necessary tools and equipments ready to take up the construction activity - the project of NDMC for construction of BQSs was not set up, but insofar as the assessee is concerned, it had certainly commenced its business with the execution of contract awarded by NDMC - The authorities below have tagged the setting up of business with the provision of space for advertisement by NDMC. This is certainly a post commencement business stage of the assessee. Such an event would mark the generation of actual income on commencement of business and cannot be construed as the setting up of business - the assessee s business was set up when it prepared itself for undertaking the activity of building BQSs on receipt of contract from NDMC - not only the business of the assessee was set up but had also commenced in the instant year - As section 3 read with section 4 refers to the starting of previous year from the date of setting up of a new business, the business stood already set up in the preceding year and as such there can be no question of canvassing a view that the business would be set up in a subsequent year when BQSs would be ready for providing space to the assessee for advertisement - relying upon CIT vs. ESPN Software India Pvt. Ltd. 2008 (3) TMI 90 - DELHI HIGH COURT thus, the business was set up in the preceding year. Claim for deduction Held that - The AO also held such expenditure to be of revenue nature, but, still disallowed as, it was incurred before the commencement of the business and, hence, was in the nature of pre-operative expenses as it has been decided that the business set up in the preceding year, all the revenue expenses incurred during the year become eligible for deduction the order is set aside Decided in favour of assessee.

Summary

Issues:
- Deduction of expenses of Rs. 3,17,91,180 disallowed due to business not commencing in the assessment year.

Analysis:
The appeal concerned the disallowance of deduction for expenses amounting to Rs. 3,17,91,180 incurred by the assessee for the assessment year 2007-08. The dispute arose from the contention that the business of the assessee had not commenced during the relevant previous year. The assessee, engaged in out-of-home advertisement, secured a contract from New Delhi Municipal Corporation (NDMC) in the preceding year for constructing Bus Queue Shelters (BQSs) on a Build-Operate-Transfer basis. The assessee claimed the expenses incurred under this contract as deductible. The Assessing Officer (AO) accepted the nature of the expenses as revenue but disallowed the deduction on the grounds of business non-commencement. The CIT (A) upheld the AO's decision. The core issue revolved around the interpretation of when a business is considered to be set up and the implications on the allowance of deductions for incurred expenses.

The Tribunal analyzed the concept of setting up a business, distinguishing it from the commencement of business. Setting up a business involves preparing the business to discharge its intended functions, while commencement refers to the initial step in the income-producing activity. The Tribunal emphasized that the setting up of a business is crucial for determining the taxability of income and allowance of deductions. In this case, the Tribunal noted that the assessee had signed the contract with NDMC and initiated manufacturing activities in the preceding year, indicating the setting up and commencement of the business. The authorities' insistence on the completion of BQSs for space provision was deemed a misinterpretation of business setup. The Tribunal cited precedents to support the view that business setup occurs when the business is established and ready to operate, not necessarily when income generation begins.

Based on the analysis, the Tribunal concluded that the business was set up in the preceding year, aligning with the statutory provisions defining the previous year for a newly set up business. Consequently, the Tribunal allowed the deduction of Rs. 3.17 crore as the revenue expenses were incurred after the business setup. The decision highlighted the importance of correctly interpreting the stages of business establishment for tax implications and deduction eligibility.

In summary, the Tribunal's judgment clarified the distinction between setting up and commencement of a business, emphasizing the former's relevance for determining deduction eligibility. The decision favored the assessee, allowing the deduction of expenses as the business was deemed set up in the preceding year, contrary to the authorities' interpretation. The case underscored the significance of understanding business setup stages for tax assessment and deduction claims, ensuring compliance with statutory provisions and judicial precedents.