1995 (3) TMI 151 - AT - Income Tax

Assessing Officer Capital Work In Progress Fixed Assets Income From Other Sources Interest Income Previous Year Setting Up

Issues Involved:
1. Assessability of interest income.
2. Classification of interest income as "Income from other sources" versus "Business income."
3. Allowability of interest payable as expenditure.
4. Adjustment of interest received against interest paid.
5. Tax implications of interest earned on share capital versus borrowed funds.

Issue-Wise Detailed Analysis:

1. Assessability of Interest Income:
The primary issue was whether the interest income of Rs. 12,16,478 earned by the assessee should be classified under "Income from other sources" or as "Business income." The assessee argued that this interest should be adjusted against the interest paid on borrowed funds, as the funds were temporarily deposited in the bank while the plant was still under construction. The Assessing Officer, however, classified the interest income under "Income from other sources," citing various judicial precedents including decisions from the Delhi High Court.

2. Classification of Interest Income:
The Assessing Officer relied on several cases to support the classification of interest income as "Income from other sources." These included:
- Snam Progetti S.P.A. v. Addl. CIT [1981] 132 ITR 70
- CIT v. State Trading Corporation of India Ltd. [1973] 92 ITR 294
- Addl. CIT v. I.D.P.L. [1983] 141 ITR 134
- CIT v. New Central Jute Mills Co. Ltd. [1979] 118 ITR 1005 (Cal.)
- Addl. CIT v. Madras Fertilisers Ltd. [1980] 122 ITR 139 (Mad.)
- CIT v. Cap Steel Ltd. [1986] 162 ITR 533 (Kar.)

The Assessing Officer argued that interest income derived from placing funds in banks would typically be classified as "Income from other sources." The CIT(A) upheld this view, dismissing the assessee's appeal.

3. Allowability of Interest Payable as Expenditure:
The assessee contended that the interest paid on borrowed funds should be deductible from the interest income earned, as the funds were borrowed for construction purposes but temporarily deposited to earn interest. The Assessing Officer and CIT(A) rejected this argument, stating that the interest paid on borrowings could not be allowed as a deduction under section 57 since it was not expended to earn the interest income.

4. Adjustment of Interest Received Against Interest Paid:
The Tribunal considered whether the interest earned on borrowed funds, which were temporarily deposited, should be adjusted against the interest paid on those borrowings. The Tribunal noted that the entire share capital and borrowings were utilized for fixed capital assets, and thus, without evidence, it could not be held that share capital was deposited in the bank to earn interest. The Tribunal found that the interest of Rs. 12,16,478 was earned on borrowings not utilized for construction but invested in short-term deposits.

5. Tax Implications of Interest Earned on Share Capital Versus Borrowed Funds:
The Tribunal distinguished between interest earned on share capital and borrowed funds. It cited the decision in Nagarjuna Steels Ltd. [1988] 171 ITR 663 and Modi Rubber Ltd. [1994] 208 ITR 379, which supported the view that interest earned on borrowed funds should be adjusted against the interest paid on those borrowings. The Tribunal concluded that the interest earned on borrowed funds should be deducted from the interest paid, and only the balance should be capitalized.

Conclusion:
The Tribunal allowed the assessee's appeal, directing the Assessing Officer to adjust the receipt from short-term deposits against the interest payable by the assessee, and to capitalize the excess interest payable. The Tribunal held that the interest income earned on borrowed funds, temporarily deposited, should be adjusted against the interest paid on those borrowings, aligning with the principles laid down in the cited judicial precedents.

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