2025 (2) TMI 389 - AT - Income Tax

Accrual of income - Interest income earned on funds parked in bank accounts pending their utilization for the Smart City project for which grants were given by the Central as well as State Government of Karnataka - HELD THAT - Assessee has been formed for implementation of the Smart City Scheme by the Central Govt. as well as State Govt of Karnataka. Grants are parked in the bank account until the same is used for the designated purpose of Smart City project and interest on such deposits in the case of Central Govt. funds is immediately returned to the Central Govt. as per Rule 230(8) of GFR 2017 and interest is remitted to the State Govt. based on the extent of grant received to which the interest relates immediately after finalization of the accounts. On going through the documents we note that there is no category of income to the assessee because the interest receive on Central fund is adjusted to the Consolidated Fund of India and interest received on State Govt. fund is adjusted in the subsequent grant. We are sending back this issue to the AO for carrying out verification in the light of the above judgment and the AO has to ascertain whether the interest income has been remitted back either to the Central Govt. and/or State Govt according to the interest received on the fund following the necessary guidelines. He has also to ascertain that the assessee has not received any benefit as revenue in nature on such interest income. After verifying if it is found that the entire interest income has been remitted back to the Central Govt. / State Govt. then there should be no addition on both the interest income earned on its deposits (FD and SB A/c).

ISSUES PRESENTED and CONSIDERED

The core legal issues considered in this judgment are:

Whether the interest income earned by the assessee, a nodal agency established by the government for implementing the Smart City project, on funds parked in bank accounts pending utilization for the project, is taxable as income under Section 56 of the Income Tax Act.
Whether the decision of the CIT(A) to treat the interest income as non-taxable, relying on the case of Karnataka Urban Infrastructure Development & Finance Corporation (KUIDFC), is correct in law.

ISSUE-WISE DETAILED ANALYSIS

1. Taxability of Interest Income

Relevant Legal Framework and Precedents: The primary legal framework involves Section 56 of the Income Tax Act, which pertains to income from other sources. The revenue relied on the precedent set by the Supreme Court in Tuticorin Alkali Chemicals and Fertilizer Ltd., which held that interest income earned on unutilized funds is taxable as revenue income.
Court's Interpretation and Reasoning: The Tribunal considered the nature of the assessee as a nodal agency without a profit motive, distinguishing it from the Tuticorin Alkali case. The Tribunal emphasized that the interest income did not accrue to the assessee as it was either refunded to the government or adjusted against future grants.
Key Evidence and Findings: The Tribunal noted the compliance with Rule 230(8) of the General Financial Rules, 2017, which mandates that interest earned on grants must be remitted to the Consolidated Fund of India. The assessee provided evidence of remittance of interest to the government.
Application of Law to Facts: The Tribunal applied the legal principle that income must accrue to the entity to be taxable. Since the interest income was not retained by the assessee but remitted to the government, it did not constitute taxable income.
Treatment of Competing Arguments: The Tribunal acknowledged the revenue's reliance on the Tuticorin Alkali case but found it inapplicable due to the specific nature of the assessee's operations and the mandatory remittance of interest to the government.
Conclusions: The Tribunal concluded that the interest income did not accrue to the assessee and thus was not taxable under Section 56. The matter was remitted to the Assessing Officer for verification of the remittance of interest income to the government.

2. Applicability of KUIDFC Precedent

Relevant Legal Framework and Precedents: The CIT(A) relied on the decision in the KUIDFC case, where similar interest income was not treated as taxable due to the nature of the entity as a government agency with no profit motive.
Court's Interpretation and Reasoning: The Tribunal agreed with the CIT(A)'s reliance on the KUIDFC precedent, noting the similarities in the nature and purpose of the assessee's operations.
Key Evidence and Findings: The Tribunal found that the assessee's operations were aligned with the government mandate, and the interest income was used or remitted according to government guidelines.
Application of Law to Facts: The Tribunal applied the legal reasoning from the KUIDFC case to the assessee's situation, reinforcing the non-taxability of the interest income.
Treatment of Competing Arguments: The Tribunal addressed the revenue's argument that the assessee's incorporation under the Companies Act implied a profit motive, but found the argument insufficient to override the specific circumstances and legal obligations of the assessee.
Conclusions: The Tribunal upheld the CIT(A)'s decision, affirming that the interest income was not taxable due to its mandatory remittance and the nature of the assessee as a government agency.

SIGNIFICANT HOLDINGS

Preserve Verbatim Quotes of Crucial Legal Reasoning: "Interest earned on short term deposits cannot be treated as income of the assessee, when the assessee in strict sense of the term has no dominion over such income."
Core Principles Established: Interest income that is mandatorily remitted to the government and not retained by the entity does not constitute taxable income. The nature and purpose of the entity, especially as a government agency, are crucial in determining taxability.
Final Determinations on Each Issue: The Tribunal determined that the interest income was not taxable and remitted the matter to the Assessing Officer for verification of the remittance process. The reliance on the KUIDFC precedent was upheld, reinforcing the non-taxability of interest income for government agencies operating without a profit motive.

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