2016 (7) TMI 734 - AT - Income Tax

Expenditure incurred under the head land reclamation and afforestation - leased land - Held that - The assessee by following the mercantile system of accounting has made a provisions for the expenditure to be incurred on land reclamation and afforestation on reasonable estimate basis. It is also an admitted fact that the assessee has incurred the said expenditure on every year in a systematic manner. As per the terms of lease agreement and also terms of conditions of the Government of India environment clearance letter, the assessee require to restore surface land used by it for excavating the minerals by refilling the land and make it suitable for agricultural operations. As soon as the assessee has dug the pits, he is duty bound under the contract to fill those pits before restoring the leased land to the farmers in its original shape. The moment assessee digs pits, a liability arises and he is entitled to deduction for the expenses which he is supposed to incur for filling those pits when the assessee is following a mercantile system of accounting. Therefore, we are of the view that the A.O. was not correct in holding that the expenditure claimed by the assessee under the head land reclamation and afforestation is not an allowable deduction. Considering the facts and circumstances of the case and also respectively following the decision of High Court of Rajasthan, in the case of Udaipur Mineral Development Syndicate (P) Ltd vs. DCIT (2002 (8) TMI 26 - RAJASTHAN High Court) we are of the view that the assessee is eligible for deduction towards land reclamation and afforestation expenses on accrual basis, whether or not, said expenditure is paid during the relevant financial year. The assessee has made a provision in the books of accounts based on the terms of lease agreement and also conditions stipulated by the Ministry of Forest & Ecology, Government of India on reasonable estimate basis. It is also an admitted fact that the assessee has continuously incurred the above expenditure towards the rehabilitation and reclamation programme. Therefore, we direct the A.O. to delete the additions made towards land reclamation and afforestation expenditure. - Decided in favour of assessee

Summary

Issues Involved:
1. Allowability of land reclamation and afforestation expenditure as a deduction.
2. Nature of the expenditure (capital vs. revenue).
3. Provision for expenses in the mercantile system of accounting.

Issue-wise Detailed Analysis:

1. Allowability of Land Reclamation and Afforestation Expenditure as a Deduction:

The primary issue revolves around whether the expenditure claimed by the assessee under the head "land reclamation and afforestation" is an allowable deduction while computing income under the head "profits & gains of business or profession." The assessee argued that as per the lease agreement with farmers and the environmental clearance letter from the Ministry of Environment and Forest, Government of India, he is obligated to refill the land and make it suitable for agricultural operations post-mining. The assessee made provisions in the books of accounts for these expenses based on reasonable estimates. The A.O. disallowed the expenditure, stating it had no proximity/nexus with the business operations and was not substantiated with evidence. The CIT(A) confirmed the disallowance, noting that the assessee made a mere provision without actual expenditure during the relevant period.

The Tribunal, however, concluded that the assessee, following the mercantile system of accounting, made a provision for expenses that are accrued due to a present obligation from past events. The Tribunal recognized that the assessee is required to incur these expenses as per the lease agreement and environmental clearance conditions, making the provision a reasonable estimate. Consequently, the Tribunal directed the A.O. to delete the additions made towards land reclamation and afforestation expenditure.

2. Nature of the Expenditure (Capital vs. Revenue):

The A.O. classified the expenditure as capital in nature, arguing that expenses for developing land cannot be treated as revenue expenses. The CIT(A) disagreed, stating that the expenditure could not be characterized as capital expenditure but upheld the disallowance due to the provision being unsubstantiated.

The Tribunal supported the CIT(A)'s view that the expenditure is not capital in nature. It emphasized that the expenses were necessary for business operations and incurred as per statutory and contractual obligations. Therefore, the Tribunal found that these expenses should be treated as revenue expenditure.

3. Provision for Expenses in the Mercantile System of Accounting:

A significant aspect of the case was whether the provision for land reclamation and afforestation expenses, made under the mercantile system of accounting, is allowable. The assessee contended that under the mercantile system, expenses should be recognized when the liability accrues, regardless of actual payment within the financial year. The A.O. and CIT(A) disallowed the provision, citing the lack of actual expenditure during the relevant period.

The Tribunal upheld the assessee's contention, noting that the mercantile system requires recognizing liabilities when they accrue. The Tribunal referred to the High Court of Rajasthan's decision in Udaipur Mineral Development Syndicate Pvt. Ltd. Vs. DCIT, which held that liability for land restoration accrues when the pits are dug, allowing the deduction of expenses on an accrual basis. Following this precedent, the Tribunal concluded that the provision for land reclamation and afforestation expenses is an allowable deduction.

Conclusion:

The Tribunal allowed the appeal, directing the A.O. to delete the additions made towards land reclamation and afforestation expenditure, recognizing the provision as an allowable deduction under the mercantile system of accounting. The Tribunal emphasized the statutory and contractual obligations necessitating these expenses and treated them as revenue expenditure.