2017 (11) TMI 392 - HC - Income Tax

Claim as interest expenditure as business expenditure - Held that - The purchase of inventory is continuation of the same business activity in routine course and cannot be termed as extension of the business activity. The proviso has been inserted to disentitle claim of interest on funds borrowed for acquisition of capital assets for the period upto the asset is put to use. The term put to use here applies to capital asset only because a capital assets is held to facilitate the business activity and sometimes it needs to be prepared after its acquisition for being used to facilitate the business activity. As against this, purchase and holding of inventory item itself is a business activity. In absence of this proviso, section 36(1) (iii) earlier entitled assessee to claim interest in respect of capital assets, even for the period during which they were under construction as held in various judgments pointed out by the ld. AR of the assessee. The interest was found allowable despite its capitalization in the books of accounts in the judgments. We are therefore, of the opinion that the interest on funds borrowed to purchase land which is part of inventory of the assessee company is an allowable deduction u/s 36(1)(iii). Thus we are in complete agreement with the view above taken by both the authorities i.e. CIT(A) and tribunal. - Decided against revenue

Issues Involved:
1. Whether the assessee can claim interest expenditure as business expenditure which is not in consonance with the method of accounting or the accounting policy followed by the assessee.

Issue-wise Detailed Analysis:

Issue 1: Claim of Interest Expenditure as Business Expenditure

The primary issue in these appeals was whether the assessee could claim interest expenditure as business expenditure, which was neither in consonance with the method of accounting nor the practice/accounting policy followed by the assessee.

Substantial Question of Law:
The court framed the substantial question of law for the appeals as:
- “Whether on the facts and in circumstances of the case, the assessee can claim as interest expenditure of ? 2,32,13,786/- as business expenditure which is neither in consonance of method of accounting nor the practice/accounting policy followed by the assessee?”

Facts of the Case:
The assessee sold 15973 sq. ft. of area out of a total saleable area of 89966 sq. ft. The AO computed the cost of goods sold at ? 33588773/- against ? 38485063 claimed by the assessee, adding the difference of ? 4896290/- to the total income. Additionally, the AO made an addition of ? 1420327/- for estimated expenditure incurred on goods sold and ? 37369323/- for interest cost for project -2 in the value of inventory by applying AS-16.

Assessment and Accounting Standards:
The AO referenced Section 145A of the Income-tax Act, 1961, which mandates that inventory must be valued in accordance with the method regularly employed by the assessee. The AO observed that the assessee's valuation of Project-2 inventory was inconsistent with its own accounting policies and the policy adopted for Project-1. The AO discussed AS-2 and AS-16, noting that while AS-2 usually excludes interest cost from inventory value, AS-16 allows capitalization of borrowing costs for qualifying assets under certain conditions.

CIT(A) and Tribunal Observations:
CIT(A) observed that the ITAT had erred in law and facts by holding that the revised AS-2 was mandatory for chartered accountants but not for the Department. The CIT(A) noted that the assessee had valued its stores/inventories on the cost or market price, whichever was lower, and had written down inventories below cost to net realizable value due to obsolescence/damage. The tribunal supported this view, stating that the assessee's valuation method was consistent with recognized accounting principles and that interest on capital borrowed for business purposes is allowable under Section 36(1)(iii).

Court's Decision:
The court agreed with the CIT(A) and tribunal, noting that the assessee's valuation method was consistent with recognized accounting standards and that the interest on borrowed funds for business purposes is allowable under Section 36(1)(iii). The court dismissed the appeals, answering the issue in favor of the assessee and against the department.

Conclusion:
The court upheld the assessee's claim of interest expenditure as business expenditure, consistent with the method of accounting and accounting policies followed by the assessee. The appeals were dismissed, and the issue was resolved in favor of the assessee.

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