2017 (8) TMI 481 - AT - Income Tax

Disallowance of expenditure - business setting up in the year under consideration or not - proof of commencement of business - accrual or receipt of income - Held that - AO and the FAA had taken note of expenditure incurred only they had dealt with the concept of setting up of business and commencement of business. We find that after getting approval from FIPB the assessee had made downstream investments of ₹ 22.3 crores in a Bangalore based Hospitality Venture, that for acquisition of a plot of land it had provided ₹ 20 crores as application money in a JV,that had started consultation and preparing feasibility reports. In our opinion, the accrual or receipt of income is not the only criteria to decide the taxability of the assessees. Business is a complex commercial activity and it takes quite a long time to start the practical operations. Therefore, such an issue has to be decided after considering the surrounding circumstances. In the appeal before us, the AO and the FAA have held that expenses incurred were pre-operative period. Besides, the assessee is a company and it has to incur certain expenses for functioning of corporate entity. Thus the assessee had set up the business and that expenditure incurred by it has to be allowed as business expenditure except for the expenditure incurred on account of ROC charges for increase in authorised capital. In its letter to the AO, dtd. 28.11.2011, the assessee had agreed that it had no objection if the disputed demand was disallowed. We direct the AO to allow the remaining expenses. - Decided in favour of assessee in part. Assessment of income - activity of receiving interest income or receiving some profit on redemption of short term mutual fund investment - under the head income from other sources or business income - benefit of netting of income - Held that - We find that the assessee company was incorporated to carry on business of setting up of new hotels and investment in hotel projects. It had never applied to RBI for getting a certificate of registra-tion as NBFC. Just because it sold some debentures it cannot be treated an NBFC or an investment company. In our opinion, activity of receiving interest income or receiving some profit on redemption of short term mutual fund investment was not in nature of business. Income arising out of above two activities cannot be termed business income and that the revenue authorities have rightly taxed it under the head income from other sources. Confirming the order of the FAA, we decide second ground of appeal against the assessee. As far as netting of interest is concerned, it is found that the FAA has not dealt with the issue.In our opinion, even if income is to be assesseed under the head income from other sources,benefit of netting of income cannot be denied to the assessee. AO is directed accordingly.

Summary

Issues Involved:
1. Disallowance of expenditure amounting to ?27.46 lakhs.
2. Assessment of income of ?31.36 lakhs under the head "income from other sources" as opposed to "business income."

Issue-wise Detailed Analysis:

1. Disallowance of Expenditure Amounting to ?27.46 Lakhs:

During the assessment proceedings, the Assessing Officer (AO) found that the assessee had earned interest income on debentures and profit on the sale of mutual fund units aggregating to ?31.36 lakhs. The AO held that this income was to be assessed under the head "other sources" and disallowed the expenditure of ?27.46 lakhs claimed against this income, deeming the items of expenditure as capital in nature and preliminary expenditure.

The First Appellate Authority (FAA) upheld the AO's decision, stating that the assessee had not commenced its business activities and that the expenditure incurred was pre-operative and preliminary in nature. The FAA also noted that the expenses could not be treated as revenue expenditure and thus could not be set off against income earned under the head "other sources." The FAA further held that certain preliminary expenses, such as ROC fees, were allowable under section 35D of the Act but only in the year the business commenced operations.

Upon appeal, it was argued that the assessee had started its business activities after receiving approval from the Foreign Investment Promotion Board (FIPB) and that the expenses were necessary for running its business. The Tribunal referred to various case laws to distinguish between the setting up of business and the commencement of business, emphasizing that a business is set up when it is ready to commence. The Tribunal concluded that the assessee had set up its business and that the expenditure incurred should be allowed as business expenditure, except for ROC charges for increasing authorized capital. The AO was directed to allow the remaining expenses.

2. Assessment of Income of ?31.36 Lakhs Under the Head "Income from Other Sources":

The AO assessed the income arising from interest on debentures (?4.70 lakhs) and profit on the sale of mutual fund units (?26.66 lakhs) under the head "other sources" in view of specific provisions of section 56 of the Act. The FAA confirmed this assessment.

During the hearing, the assessee argued that it had carried on the business of an investment company and that the income was rightly shown under the head "income from business." The assessee also contended that even if the income was considered to arise from other sources, the principles of netting should be applied.

The Tribunal found that the assessee was incorporated to carry on the business of setting up new hotels and investing in hotel projects, not as a Non-Banking Financial Company (NBFC) or an investment company. The Tribunal concluded that the activity of receiving interest income or profit on the redemption of short-term mutual fund investments was not in the nature of business. Therefore, the income arising from these activities could not be termed as business income and was rightly taxed under the head "income from other sources." However, the Tribunal directed the AO to allow the benefit of netting of income even if it was assessed under the head "income from other sources."

As a result, the appeal filed by the assessee was partly allowed.