2005 (5) TMI 265 - AT - Income Tax

Nature Of expenditure Capital Or Revenue - Preliminary Expenses - expenditure on installation charges and management fee paid to HDFC - enduring benefit - Interest claimed as to leased assets - manufacture of motorcycles and its accessories - Disallowance of deduction u/s 35D - fee paid to Registrar of Companies for increase in authorized capital - Foreign travelling expenses - Amortization of the technical know-how fee - deduction of expenditure in six years - Interest earned on temporary deposit of surplus funds of business other than bill discounting and advances to employees as income from other sources instead of profits and gains from the business or profession - excise duty and sales tax - deduction u/s 80HHC. HELD THAT - On the facts of the present case we are of the view the expenditure in question was not of a capital nature and was allowable as a deduction. The management fee paid to HDFC for arranging for the transaction of lease of machinery is duly evidenced by the agreement and was an allowable deduction being of a revenue nature. The machinery in question not being owned by the assessee there was no basis to treat the expenditure as capital expenditure. The order of the revenue authorities is therefore not proper. We therefore direct the Assessing Officer to allow the expenditure claimed towards civil work on leased assets and management fee paid to HDFC on leased assets. The ground of appeal of the assessee is allowed. We find that the assessee has treated the said expenditure as deferred revenue expenditure considering the advantage of enduring nature that is likely to accrue to it in the sense the advantage which was going to last for a few years beyond the previous year. When any expenditure is treated as a deferred revenue expenditure it presupposes that the concerned expenditure creating benefit is in the Revenue field and is a revenue expenditure but considering its enduring benefits as well as the fact that it does not result in the creation of any new asset or advantage of enduring nature in the capital field the same is required to be treated distinctly from capital expenditure. We therefore find any basis for the conclusion drawn by the Assessing Officer in this regard. Grounds 1 and 1.1 of the grounds appeal of the assessee is allowed while the 3rd ground of appeal of the Revenue is dismissed. Foreign travelling expenses - In the present case the visit to Mauritius at the invitation of the Confederation of Indian Industries by the wife of the CMD along with the CMD was therefore to be considered as for business purpose and allowed as a deduction. The ground of appeal of the Revenue therefore deserves to be dismissed. As far as assessee s appeal regarding foreign travel expenses of wife of CMD to South Africa is concerned the visit apparently is to participate in poojas carried out at South Africa. There is no reference to any meeting with any foreign business associates. There is nothing to suggest any business necessity for undertaking these visits. The visit of the various outlets in South Africa is claimed to be a goodwill visit. The explanation given in our view was not sufficient to conclude that the visit by the wife of the CMD was necessary and consequently to that extent the expenditure is liable to be disallowed. In our view the order of the CIT(A) is just and proper and calls for no interference. The same is confirmed and the fifth ground of appeal of the assessee is dismissed. Amortization of the technical know-how fee - Whether the expenditure is a capital expenditure? Whether the expenditure would fall within the parameters of section 35AB of the Act and therefore the assessee would be entitled to only 1/6th of the expenditure as a deduction? - To fall within the parameters of section 35AB the assessee must have paid lump sum consideration for acquisition of any know-how for use for the purpose of business. The expression Acquired used in section 35AB as we have already observed refers to a situation where the ownership is acquired by an assessee and not to a case of a mere right to use the technical know-how. The expression acquired means to become the full owner of the property with full and absolute right title and interest. On a reading of the terms of the agreement it is clear that the assessee never became the owner of the know-how. Consequently the provisions of section 35AB did not apply to the assessee. What was allowed by the provisions of section 35AB was an expenditure which was of capital nature and which was not allowable as a deduction u/s 37(1) of the Act. The said provisions do not affect the right of an assessee to claim deduction of an expenditure which was legitimately allowable u/s 37(1) of the Act. We are therefore of the view that the disallowance of a part of the know-how fee paid by applying the provisions of section 35AB was not proper. The entire expenditure ought to be allowed as deduction. The relevant grounds of appeal of the assessee are allowed. Interest earned on temporary deposit of surplus funds of business other than bill discounting and advances to employees as income from other sources instead of profits and gains from the business or profession - It was not the business of the assessee to invest monies and earn interest income. Respectfully following the decision referred we hold that the Excise Duty benefit should form part of the income from business of the assessee while computing deduction u/s 80HHC of the Act. With regard to the Customs Duty and Sales-tax having been included as part of the total turnover while computing deduction u/s 80HHC of the Act the decision of the CIT(A) cannot be sustained in view of the decision of the Hon ble Bombay High Court in the case of Sudarshan Chemicals Industries Ltd. 2000 (8) TMI 73 - BOMBAY HIGH COURT wherein the Hon ble Bombay High Court has held that Excise Duty and Sales-tax should not be included in the total turnover while computing deduction u/s 80HHC of the Act. Thus the Excise Duty and Sales-tax is directed to be excluded from total turnover while computing deduction u/s 80HHC of the Act. Ground No.8 is partly allowed. In the result the appeal filed by assessee is partly allowed. Maintaining the first year of manufacture of production is the first year of production of commercial manufacture though there is no distinction u/s 80HH between commercial manufacturing or trial production - The expenditure incurred on the production during the period from March 1985 to 30-4-1985 has been shown as pre-operative and trial production expenditure allocated to fixed assets and capital work in progress. The auditors in their report to the shareholders have also reported to the shareholders that no commercial production has started as on 30-4-1985. A copy of the annual report for the year 1985-86 has also been filed before us. Copy of the same is at page Nos. 371 to 374 of the assessee s paper book. In this annual report for the period ending 30-6-1985 it has been reported by the Director that the commercial production of the Motor Cycles began only from 1-5-1985 to 30-6-1986. In the notes of accounts the fact that the commercial production began only on 27-5-1985 has been stated. In the year of assessment for the year 1986-87 the Assessing Officer has recorded the fact that the commercial production of the assessee began only on 27-5-1985. The first sale of Motor Cycles had taken place on 27-5-1985 and the sales tax return disclosing the sales made and the return to the excise authorities in RT-12 disclosing the production of the Motor Cycles was filed first time on 27-5-1985. The copy of the sales tax return for the month of June 1985 is at pages 69 to 75 of the assessee s paper book. Copy of the excise return for the month of March 1985 is at pages 76 to 83 of the assessee s paper book. Thus the findings of the learned CIT(A) that commercial production began only on 27-5-1985 is correct. Hence the order of CIT(A) does not call for any interference and the same is confirmed and this ground of appeal of the Revenue is dismissed. Research and development expenses - The assessee in the present case follows the mercantile system of accounting and the liability in question had been incurred during the previous year relevant to the assessment year 1996-97. In such circumstances we find no ground to interfere with the order of the learned CIT(A) and the same is therefore confirmed and this ground of the revenue is also dismissed. In the result the appeal filed by the revenue is partly allowed.

Summary

Issues Involved:
1. Disallowance of expenditure on installation charges and management fees paid to HDFC.
2. Disallowance of investment allowance on account of exchange rate fluctuation.
3. Disallowance of deduction under section 35D for fees paid to Registrar of Companies.
4. Disallowance of club subscription expenses.
5. Disallowance of foreign travel expenses for the wife of a director.
6. Amortization of technical know-how fees under section 35AB.
7. Classification of interest income and computation of deduction under section 80HHC.
8. Claim for deduction under section 80HH.
9. Disallowance of provision for warranty.
10. Disallowance of expenses on presentation of articles.
11. Disallowance of research and development expenditure.
12. Disallowance under section 43B for unpaid sales tax.

Detailed Analysis:

1. Disallowance of Expenditure on Installation Charges and Management Fees Paid to HDFC:
The assessee claimed the expenditure on installation charges and management fees as revenue expenditure. The CIT(A) disallowed these claims, treating them as capital expenditure. The Tribunal found that the ownership of the leased assets did not vest with the assessee, and the expenditure on installation and management fees did not result in an enduring benefit. Therefore, the Tribunal directed the Assessing Officer to allow these expenditures as revenue expenditure.

2. Disallowance of Investment Allowance on Account of Exchange Rate Fluctuation:
The assessee claimed investment allowance on the increased cost of assets due to exchange rate fluctuations. The CIT(A) did not adjudicate this issue. The Tribunal set aside the order of the CIT(A) and directed a fresh consideration of the issue after providing the assessee an opportunity to be heard.

3. Disallowance of Deduction Under Section 35D for Fees Paid to Registrar of Companies:
The assessee claimed deduction under section 35D for fees paid to increase authorized capital. The CIT(A) held that the expenditure did not qualify as pre-commencement expenditure under section 35D. The Tribunal confirmed this view, stating that the expenditure was not incurred before the commencement of business or in connection with the extension of the industrial undertaking.

4. Disallowance of Club Subscription Expenses:
The assessee claimed deductions for club subscriptions. The CIT(A) disallowed these claims, treating them as personal expenses. The Tribunal found that such expenses enable directors and executives to socialize and develop business contacts, and therefore, allowed the deductions.

5. Disallowance of Foreign Travel Expenses for the Wife of a Director:
The assessee claimed foreign travel expenses for the wife of the CMD. The CIT(A) allowed the expenses for travel to Mauritius but disallowed those for South Africa. The Tribunal upheld the CIT(A)'s decision, allowing the expenses for Mauritius as business-related but disallowing those for South Africa due to lack of business necessity.

6. Amortization of Technical Know-How Fees Under Section 35AB:
The assessee claimed the entire technical know-how fees as revenue expenditure. The CIT(A) held that the expenditure was capital in nature and fell under section 35AB, allowing only 1/6th of the expenditure. The Tribunal found that the assessee only had the right to use the know-how and did not acquire ownership, thus allowing the entire expenditure as revenue expenditure under section 37(1).

7. Classification of Interest Income and Computation of Deduction Under Section 80HHC:
The assessee included interest income as business income for section 80HHC deduction. The CIT(A) and the Tribunal held that interest on inter-corporate deposits was not business income. However, the Tribunal allowed customs duty benefits under the advance licensing scheme as business income and directed the exclusion of excise duty and sales tax from total turnover for section 80HHC computation.

8. Claim for Deduction Under Section 80HH:
The CIT(A) held that the first year of commercial production, not trial production, determines the start of the 10-year deduction period under section 80HH. The Tribunal confirmed this, finding that commercial production began in the assessment year 1987-88, allowing the deduction for the assessment year 1996-97.

9. Disallowance of Provision for Warranty:
The assessee made a provision for warranty expenses based on past claims. The CIT(A) allowed the provision, finding it consistent and based on a scientific method. The Tribunal upheld this, noting that the provision reflected a reasonable estimate of future liabilities.

10. Disallowance of Expenses on Presentation of Articles:
The assessee incurred expenses on presenting articles to dealers. The CIT(A) allowed these expenses as business-related incentives. The Tribunal confirmed this, rejecting the view that the presentations had advertisement value.

11. Disallowance of Research and Development Expenditure:
The CIT(A) allowed the deduction for capital expenditure on research and development, despite part of it being paid in advance. The Tribunal upheld this, noting that the expenditure was incurred during the relevant previous year.

12. Disallowance Under Section 43B for Unpaid Sales Tax:
The CIT(A) allowed the deduction for sales tax paid before the due date for filing the return. The Tribunal confirmed this, finding that the necessary evidence for payment had been provided.

Conclusion:
The Tribunal allowed several claims of the assessee, including those related to installation charges, management fees, club subscriptions, and warranty provisions, while upholding the CIT(A)'s decisions on issues like foreign travel expenses and research and development expenditure. The Tribunal also clarified the computation of deductions under sections 80HHC and 80HH, providing a detailed analysis of each issue.