2019 (6) TMI 608 - AT - Income Tax

Disallowance of pre-operative stage expenses - distinction between setting off of business or commencement of business - HELD THAT - Perusal of the balance sheet and P L account apparently shows that the assessee has raised substantial funds through equity capital employee personnel entered into lease agreements to take hotel properties on lease and started improvements on the properties and all these facts have been brought on record by the AO but he has failed to make distinction between setting off of business or commencement of business. When the assessee has taken sufficient steps by way of raising sufficient funds employing skilled personnel and by entering into lease agreements with the hotels on which improvements have been started it amounts to setting off of business and as such previous year expenses incurred in the business are permissible deductions. We are of the considered view that the CIT (A) has rightly allowed the expenses having been incurred by the assessee after setting off of the business though before commencement of the business. Moreover the assessee itself has capitalized many of its expenditure and only claimed the expenses which are of revenue in nature. Interest income to be set off u/s 71 being inextricably linked with the business of the assessee - HELD THAT - When it is proved that the assessee has set up the business earned the income from interest during the construction period and has set off of the same against the loss under the head PGBP as per section 71 of the Act CIT (A) has rightly deleted the addition as the funds parked in the bank on which interest has been earned were inextricably linked with the setting up of the hospitality business. So following the decision rendered in Indian Oil Panipat Power Consortium 2009 (2) TMI 32 - DELHI HIGH COURT income earned by the assessee from interest during the period prior to the commencement of business and at the stage of setting up of business the same is of the nature of capital receipt and as such loss incurred by the assessee under the head PBGP is eligible to be set off against the interest income earned during the year under assessment. So we are of the considered view that the ld. CIT (A) has rightly directed the AO that interest income be set off u/s 71 being inextricably linked with the business of the assessee. Contentions raised by the ld. DR for the Revenue and the decision rendered by the coordinate Bench of the Tribunal in case of Orient Cosmetics Ltd. vs. DCIT 1999 (8) TMI 126 - ITAT MADRAS-A is not applicable to the facts and circumstances of the case. Consequently appeal filed by the Revenue is hereby dismissed.

Summary

Issues Involved:
1. Deletion of disallowance of pre-operative stage expenses.
2. Deletion of addition assessed under the head of income from other sources.
3. Acceptance of the appellant's plea that interest earned was inextricably linked with the setting up of the business.

Detailed Analysis:

Issue 1: Deletion of Disallowance of Pre-Operative Stage Expenses

The Revenue challenged the deletion of pre-operative stage expenses amounting to ?5,75,23,000/- debited in the Profit & Loss account. The Assessing Officer (AO) contended that since the assessee was only involved in the construction of projects and had not commenced any business activities, the expenses should be capitalized to the cost of construction. However, the Commissioner of Income-tax (Appeals) [CIT(A)] allowed these expenses, distinguishing between the "setting up" and "commencement" of business.

The Tribunal upheld the CIT(A)'s decision, emphasizing that the assessee had taken substantial steps towards setting up the business, such as raising funds, employing key personnel, entering into lease agreements, and starting property improvements. The Tribunal cited precedents, including the Hon'ble Delhi High Court's ruling in CIT vs. Dhoomketu Builders & Development (P) Ltd., which held that business setup activities, even without actual commencement, justify the deduction of related expenses.

Issue 2: Deletion of Addition Assessed Under the Head of Income from Other Sources

The AO had treated the interest income of ?3,39,98,656/- as "income from other sources" and added it to the total income. The CIT(A) deleted this addition, noting that the interest income was inextricably linked with the setting up of the business and should be set off against the business loss under section 71 of the Income-tax Act.

The Tribunal supported this view, referencing the Hon'ble Delhi High Court's decision in Indian Oil Panipat Power Consortium Ltd. vs. ITO, which held that interest earned on funds temporarily parked in banks, which were intended for business setup, should be treated as a capital receipt and set off against pre-operative expenses. The Tribunal concluded that the funds were inextricably linked to the business setup, and thus, the interest income should not be classified under "income from other sources."

Issue 3: Acceptance of the Appellant's Plea that Interest Earned was Inextricably Linked with Setting Up of the Business

The Tribunal examined whether the interest income earned during the construction period was inextricably linked with the business setup. The CIT(A) had found that the interest income was indeed linked to business setup activities and allowed it to be set off against the business loss.

The Tribunal upheld this finding, reiterating that the funds generating the interest income were intended for business purposes. This view aligned with the Hon'ble Delhi High Court's interpretation in Indian Oil Panipat Power Consortium Ltd. vs. ITO, which clarified that such interest income, earned during the business setup phase, should be treated as a capital receipt and set off against pre-operative expenses.

Conclusion

The Tribunal dismissed the Revenue's appeal, affirming the CIT(A)'s decisions on all grounds. The expenses incurred during the business setup phase were allowed as deductions, and the interest income was set off against the business loss, in line with established legal precedents. The order was pronounced in open court on June 10, 2019.