1986 (3) TMI 149 - AT - Income Tax

Summary

Issues Involved:
1. Treatment of expenses incurred before the commencement of commercial production.
2. Nature of expenditure on design and development.
3. Treatment of subsidy received for the purpose of depreciation.
4. Allowance of development rebate on plant and machinery.
5. Rectification under Section 154 regarding the subsidy amount in calculating capital employed for Section 80J claim.

Detailed Analysis:

1. Treatment of Expenses Incurred Before the Commencement of Commercial Production:
The Department contended that expenses incurred before the commencement of commercial production should not be treated as revenue expenses. They argued that revenue expenses can only be recognized when there is revenue income, citing Section 28 and Section 29 of the Income Tax Act, and relied on various judgments including Metropolitan Springs Pvt. Ltd. vs. CIT and Mc Dowell & Co. Ltd. vs. CTO. Conversely, the assessee argued that once the business is set up, all expenses incurred are of a revenue nature, supported by multiple judicial precedents and the Institute of Chartered Accountants of India's guidelines. The Tribunal upheld the CIT(A)'s order, concluding that expenses incurred from the date of setting up the business till the commencement of production are allowable as revenue expenditure.

2. Nature of Expenditure on Design and Development:
The Department argued that Rs. 6,52,606 spent on design and development should be treated as capital expenditure, citing Scientific Engineering House(P) Ltd. vs. CIT. The assessee countered that these expenses were for developing parts and correcting designs, necessary for manufacturing quality scooters, and should be treated as revenue expenditure. The Tribunal agreed with the assessee, referencing Praga Tools Ltd. vs. CIT and concluded that such expenses are revenue in nature as they do not create an asset of enduring nature.

3. Treatment of Subsidy Received for the Purpose of Depreciation:
The issue was whether the subsidy of Rs. 15 lakhs should be deducted from the cost of plant and machinery for depreciation purposes. The Tribunal followed the decision in Pioneer Match Works and held that the subsidy received is against the establishment of an industrial undertaking and not specifically towards any plant and machinery. Therefore, the subsidy should not be deducted from the cost of plant and machinery for allowing depreciation.

4. Allowance of Development Rebate on Plant and Machinery:
The Department argued that the assessee did not create a development rebate reserve due to inadequacy of profits, and hence, the rebate should not be allowed. The Tribunal noted that the CBDT Circular dated 30th Jan., 1976 clarified that the development rebate could be claimed in a subsequent year when there is a profit, and the reserve is created. The CIT(A)'s direction to allow the development rebate in the year under review was found contrary to law. The Tribunal held that the assessee could claim the development rebate in a subsequent year when it complies with Section 34.

5. Rectification Under Section 154 Regarding the Subsidy Amount in Calculating Capital Employed for Section 80J Claim:
The Department argued that the ITO's rectification of not deducting the subsidy amount from the cost of assets for determining the capital employed under Section 80J was justified. The Tribunal noted that the nature of the subsidy as a liability or a grant raised an important question of law and could not be a subject matter of rectification under Section 154. Therefore, the CIT(A)'s observation that the issue had become infructuous was erroneous. The Tribunal dismissed the Department's appeal on this issue.

Conclusion:
The Tribunal upheld the CIT(A)'s orders on the treatment of expenses before the commencement of commercial production, the nature of design and development expenditure, and the treatment of subsidy for depreciation. However, the direction to allow the development rebate in the year under review was modified, allowing the assessee to claim it in a subsequent year. The rectification under Section 154 was found to involve a significant question of law and was not upheld. The Department's appeal was partly allowed, and the rectification appeal was dismissed.