2015 (12) TMI 1015 - AT - Income Tax

Disallowance of the claim for deduction u/s. 37((1) - recruitment of employees before commencement of business - Held that - The undisputed fact is that the assessee has recruited employees for the purpose of its business and as per the details exhibited at page-10 of the Paper Book about 16 employees are for the job of quality assurance. The assessee is in the business of Merchandising of diamonds/gold/jewelleries. Undisputedly, this line of business requires expertise who have proficiency in understanding the carats of diamonds and related jewellery, without such recruitment, it would be a futile exercise to commence the business. Therefore in our understanding of the law, the claim of the expenditure is allowable. We, accordingly, set aside the order of the Ld. CIT(A) and direct the AO to allow the claim of expenditure - Decided in favour of assessee.

Summary

Issues: Disallowance of deduction u/s. 37(1) for revenue expenditure incurred before commencement of business.

Analysis:
The appeal was against the order confirming the disallowance of a deduction u/s. 37(1) for revenue expenditure incurred before the commencement of business. The Assessing Officer disallowed the claim as the business had not commenced, hence the expenses were not allowable. The appellant argued that setting up a business is distinct from commencing it, relying on the decision in Omniglobe Information Tech India Pvt. Ltd. vs. CIT. The appellant had recruited employees for quality assurance, crucial for the business of merchandising diamonds/gold/jewelry. The High Court of Delhi in the Omniglobe case emphasized the difference between setting up and commencing business, citing precedents like Western India Vegetable Products Ltd. vs. CIT and Whirlpool of India Ltd. The court held that business setup occurs when necessary infrastructure is acquired, staff is appointed, and salaries are paid. The appellant's recruitment of employees and incurring expenses indicated business setup, justifying the allowance of the expenditure.

The court referred to the proviso to Sec. 3 defining the "previous year" concerning newly set up businesses, not the commencement date. The appellant's recruitment of employees for the business, especially quality assurance roles, was crucial for the specialized nature of the business. The court cited the Omniglobe case's distinction between setting up and commencing business, emphasizing the importance of infrastructure and staff appointments in determining business setup. The court also highlighted precedents like Hughes Escorts Communications Ltd. and Whirlpool of India Ltd. where equipment purchase and staff appointments signaled business setup. The court concluded that the appellant's recruitment of employees and incurring expenses indicated business setup, justifying the allowance of the expenditure.

The court found that the recruitment of employees and incurring expenses by the appellant indicated the setup of the business, justifying the allowance of the claimed expenditure. The court set aside the CIT(A)'s order and directed the AO to allow the claim of expenditure. The objection that the cases relied upon were for IT Service Industries was dismissed, emphasizing the underlying principles considered in the decisions. The appeal filed by the assessee was allowed, and the order was pronounced in open court on 28th October 2015.