2014 (5) TMI 940 - HC - Income Tax

Interpretation of Section 36 and Section 57 of the Act Allowability of deduction on bonds Held that - Following Commissioner of Income-Tax, West Bengal III Versus Rajendra Prasad Moody 1978 (10) TMI 133 - SUPREME Court - the words in Section 57(iii) speak of purpose of the expenditure and that is relevant - the argument of the revenue that the expenditure would disqualify for deduction only if no income results from such expenditure in a particular assessment year, but if there is some income, howsoever small or meagre, the expenditure would be eligible for deduction - the when a profit and loss account is cast in respect of any source of income, what is allowed by the statute as proper expenditure would be debited as an outgoing and income would be credited as a receipt and the resulting income or loss would be determined - how expenditure which is otherwise a proper expenditure can cease to be a such merely because there is no receipt of income, has not been explained by the revenue at all - Section 57(iii) does not require that the purpose must be fulfilled so as to be expenditure qualified for deduction - The language of the section does not admit of a construction that the expenditure shall be debited only if any income is made or earned - the Tribunal in the facts and circumstances had allowed the deduction, then, the appeal does not raise any substantial question of law Decided against Revenue.

Summary

Issues Involved:
1. Disallowance of interest on borrowed funds for the purpose of investment in bonds.
2. Classification of gains from the sale of bonds as short-term or long-term capital gains.
3. Interpretation of Section 36 and Section 57 of the Income Tax Act, 1961.

Detailed Analysis:

1. Disallowance of Interest on Borrowed Funds for the Purpose of Investment in Bonds:
The revenue challenged the disallowance of Rs.5,06,44,796/- as interest on funds borrowed for investment in MSRDC 2018 Bonds, arguing that the interest on borrowed funds should not be allowed as a deduction once the bonds were sold. The Assessing Officer disallowed this interest, and this decision was upheld by the Commissioner of Income Tax (Appeals). However, the Income Tax Appellate Tribunal reversed this decision, allowing the deduction. The Tribunal's decision was based on the interpretation of Section 57(iii) of the Income Tax Act, which allows for deductions of any expenditure laid out or expended wholly and exclusively for the purpose of making or earning such income, irrespective of whether the income was actually earned. The Tribunal found that the borrowings and the interest payable on them were undisputed liabilities, and thus the interest was a permissible deduction.

2. Classification of Gains from the Sale of Bonds as Short-Term or Long-Term Capital Gains:
The Assessing Officer classified the gains from the sale of 3563 MSRDC bonds as 'Short Term Capital Gains' instead of 'Long Term Capital Gains' as claimed by the assessee. The Tribunal, however, found that the gains should be classified as 'Long Term Capital Gains' based on the holding period of the bonds and the relevant legal provisions. This classification was crucial for determining the applicable tax rate and the allowable deductions.

3. Interpretation of Section 36 and Section 57 of the Income Tax Act, 1961:
The core issue revolved around the interpretation of Section 36 and Section 57 of the Income Tax Act. Mr. Gupta argued that the deduction under Section 57(iii) should be disallowed once the bonds were sold, as the purpose of earning income from the bonds ceased. However, Mr. Mistry, representing the assessee, argued that the deduction was allowable as long as the liability to pay interest on the borrowed funds subsisted. The Tribunal and the High Court relied on the Supreme Court judgments in Commissioner of Income Tax, West Bengal-III v/s Rajendra Prasad Moody and Commissioner of Income Tax v/s Meghdoot Hotels (Pvt.) Ltd. These judgments clarified that the purpose of the expenditure, not the actual earning of income, is relevant for deductions under Section 57(iii). The Supreme Court had held that the expenditure need not result in actual income to qualify for deduction, and the liability to pay interest on borrowings continues to be deductible even if the asset is sold.

Conclusion:
The High Court upheld the Tribunal's decision, stating that the Tribunal's interpretation was in line with the Supreme Court's judgments. The High Court dismissed the revenue's appeals, concluding that no substantial question of law arose for determination. The view taken by the Tribunal was consistent with the legal principles and did not involve any error of law or perversity. The appeals were dismissed with no costs.