2012 (5) TMI 110 - AT - Income Tax

Disallowance interest expenses holding that the assessee has not commenced its business Held that - As per provision of section 36(1)(iii) interest paid, in respect of capital borrowed for acquisition of an asset for extension of existing business or profession; for any period beginning from the date on which the capital was borrowed for acquisition of the asset till the date on which such asset was first put to use, shall not be allowed as deduction. By implication this proviso is also applicable when assets are acquired for new business against assessee. Disallowance administrative and other expense by holding that the assessee has not commenced its business Held that - Merely taking land on lease, by any stretch of imagination cannot be treated as the commencement / setting up of it s hotel business against assessee. Right to transfer or sell the plot or the building constructed thereupon (as trading commodity) assessee contested that land has been shown as stock-in-trade - Held that - Perusal of clause 5 of the Memorandum of Association of assessee running of hotel is one of the its main objects and not its other object - the assessee can use the hotel plot leased to it only for construction and running of hotel, with no right to transfer the same - although the assessee company has shown it as a stock in its balance sheet and profit and loss account it will not alter the legal position because the substance of a transaction is important and not its entry in the books of account or its treatment by the assessee company - against assessee. Disallowed expenditure to be allowed to be capitalized - in favour of assessee.

Issues Involved:
1. Disallowance of interest expenses.
2. Disallowance of administrative and other expenses.
3. Right to transfer or sell the plot or building.
4. Applicability of proviso to section 36(1)(iii).

Detailed Analysis:

1. Disallowance of Interest Expenses:
The assessee, a private limited company and a wholly owned subsidiary of DLF Ltd., acquired a plot of land from the Delhi Development Authority (DDA) through a perpetual lease deed and took a loan from DLF Ltd. to finance this acquisition. The interest paid on this loan, amounting to Rs. 8,35,88,700/-, was claimed as an expenditure under section 36(1)(iii) of the Income Tax Act. The Assessing Officer disallowed this interest expenditure, stating that it was incurred prior to the commencement of the business and thus was not allowable under the proviso to section 36(1)(iii). The Commissioner of Income Tax (Appeals) upheld this view, noting that merely acquiring land on lease does not constitute the commencement of business. The Tribunal agreed with this finding, emphasizing that the business must be ready to start functioning, and since the assessee had not started constructing the hotel or obtained necessary sanctions, the business was not set up during the relevant assessment year.

2. Disallowance of Administrative and Other Expenses:
The assessee claimed administrative and other expenses, including fees and taxes, bank charges, audit fees, and preliminary expenses under section 35D. The Assessing Officer disallowed these expenses, treating them as prior period expenses since the business had not been set up. The Commissioner of Income Tax (Appeals) upheld this disallowance, and the Tribunal agreed, stating that these expenses were incurred before the business was set up and thus were not allowable.

3. Right to Transfer or Sell the Plot or Building:
The Commissioner of Income Tax (Appeals) observed that the assessee was restricted from transferring the plot or the building constructed thereupon without prior approval from the lessor (DDA). This restriction, along with the object clause of the Memorandum of Association, indicated that the plot was a capital asset for the assessee, despite being shown as stock in the balance sheet. The Tribunal upheld this view, stating that the substance of the transaction is more important than its treatment in the books of account.

4. Applicability of Proviso to Section 36(1)(iii):
The assessee argued that the proviso to section 36(1)(iii), which disallows interest paid for acquiring an asset for extension of existing business until it is brought to use, should not apply as there was no extension of existing business. The Tribunal rejected this argument, stating that the proviso applies to both new and existing businesses. The Tribunal concluded that the interest expenditure was not allowable as the business was not set up during the relevant year. However, the Tribunal directed that the disallowed expenditure be allowed to be capitalized.

Conclusion:
The Tribunal upheld the disallowance of interest and administrative expenses, agreeing with the lower authorities that the business had not been set up during the relevant assessment year. The Tribunal also confirmed that the plot was a capital asset and that the proviso to section 36(1)(iii) applied. However, the Tribunal allowed the disallowed expenditure to be capitalized, partially allowing the appeal.

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