2017 (12) TMI 192 - AT - Income Tax

Interest income earned by depositing the share capital money against the interest expenses - nature of income - capital gain or income from other sources - Held that - The interest income earned by assessee by depositing the share capital in Fixed Deposits under constraint are eligible to treat the income as capital in nature and allowed to set off against the precommencement expenses during the year. Accordingly, grounds raised by the assessee are allowed.

Summary

Issues Involved:
1. Taxability of interest income earned on fixed deposits during the pre-operative period.
2. Eligibility to set off interest income against capital expenditure incurred during the pre-operative period.

Detailed Analysis:

Issue 1: Taxability of Interest Income Earned on Fixed Deposits During the Pre-Operative Period
The assessee, a company established for power generation, had not commenced commercial operations and filed its return of income for AY 2012-13, declaring a loss. The company received substantial share capital and share premium, mostly from NRIs, which was kept in fixed deposits due to delays in project approvals. The interest income earned on these deposits was set off against capital expenditure by the assessee, but the Assessing Officer (AO) taxed the interest income under "income from other sources."

The AO's decision was based on the precedent set by the Supreme Court in the case of Tuticorin Alkali Chemicals & Fertilizers Ltd., which held that interest income earned from surplus funds invested in fixed deposits is taxable under "income from other sources." The CIT(A) upheld this view, stating that the interest income could not be linked to any business activity or capital expenditure and must be assessed as "income from other sources."

Issue 2: Eligibility to Set Off Interest Income Against Capital Expenditure
The assessee argued that the funds received as share capital were inextricably linked to the project setup and should be treated as capital receipts. The assessee relied on various judicial pronouncements, including the Supreme Court's decision in Bokaro Steel Ltd., which allowed the capitalization of income earned from funds linked to the setting up of a plant.

The Tribunal considered the rival submissions and judicial precedents, including the Supreme Court's decisions in Tuticorin Alkali Chemicals & Fertilizers Ltd. and Bokaro Steel Ltd., as well as the Delhi High Court's decisions in Indian Oil Panipat Power Consortium Ltd. and Facor Power Ltd. The Tribunal noted that if the share capital is brought for a specific project and interest is earned by temporarily depositing the funds in a bank, such income can be treated as a capital receipt. The Tribunal concluded that the interest income earned by the assessee was inextricably linked to the project and should be treated as capital in nature, allowing it to be set off against pre-commencement expenses.

The Tribunal distinguished the current case from the jurisdictional High Court decision in Derco Cooling Coils Ltd., which dealt with the set-off of interest income against interest expenses during the pre-production period.

Conclusion:
The Tribunal allowed the appeals for both AY 2012-13 and AY 2013-14, holding that the interest income earned on fixed deposits during the pre-operative period should be treated as capital receipts and allowed to be set off against pre-commencement expenses. The Tribunal's decision was based on the principle that funds inextricably linked to the project setup should be capitalized, as established in various judicial precedents.