2014 (9) TMI 793 - HC - Income Tax

Date of setting up of business - Whether the Tribunal was right in holding that the assessee had not set up its business till 31.03.2008 Held that - There is a distinction between setting up of a business and commencement of a business - it is only after the business is set up, that the expenses incurred in the business can be claimed as permissible deduction u/s 37 of the Act - the assessee company was incorporated on September 19, 2007 - It rented out the office premises in the month of October, 2007. Bank account was opened on October 04, 2007. Employees were also appointed during the said period. TDS deduction for the said employees was also placed on record. Registration under the Shops and Establishment Act was also effected. These activities are the first stage activities which would lay foundation for placing orders for procuring the stock and storing them in a warehouse/shop followed by the third stage of marketing them. Suffice to state for a foreign entity without establishing itself under the local laws, appointing personnel, identifying the prospective manufacturers, clients etc. obtaining storage facilities followed by stock-in-trade, the business of trading cannot commence. The Tribunal missed the point that the assessee as a prudent trader could not have made purchases without undertaking the aforesaid exercise - The exercise was a precursor to commencement but post set up reling upon COMMISSIONER OF INCOME-TAX Versus ESPN SOFTWARE INDIA P. LTD. 2008 (3) TMI 90 - DELHI HIGH COURT the activities demonstrate setting up of the business by the assessee with a commitment to commence the business - nothing barred or prevented the appellant from making first purchase, after necessary legal approvals, but the fact that the appellant wanted to commence actual trading after negotiations with several parties, would not postpone the date when the business was set up - the orders of the authorities below do not indicate that it was the case of the revenue that the assessee has claimed deduction of expenditure, prior to the setting up of business Decided in favour of assessee.

Summary

Issues Involved:
1. Whether the assessee had set up its business by 31.03.2008.
2. Whether the expenses incurred by the assessee prior to the commencement of business are deductible.

Detailed Analysis:

Issue 1: Whether the assessee had set up its business by 31.03.2008.

The High Court examined whether the assessee had set up its business by 31.03.2008, as per the requirements under Section 260A of the Income Tax Act, 1961. The Assessing Officer (AO) had disallowed the expenses claimed by the assessee, asserting that the business was not fully set up and thus the expenses were pre-commencement and non-deductible. The AO's view was supported by the Commissioner of Income Tax (Appeals) and the Income Tax Appellate Tribunal (ITAT), which held that the business of a trader is set up when the trader makes a purchase subsequent to owning or leasing a shop or warehouse.

The Tribunal noted that the assessee had not rented any shop or warehouse, nor made any purchases, and thus concluded that the business was not set up. The Tribunal's decision was challenged by the assessee, who argued that the business was set up during the relevant year, evidenced by various activities such as correspondence with suppliers, incorporation of the company, hiring of personnel, opening of a bank account, and registration under the Shops and Establishments Act.

The High Court emphasized the distinction between the setting up and commencement of business, citing precedents such as Western India Vegetables Products Ltd. vs. CIT and CIT vs. Saurashtra Cement and Chemical Industries Ltd. It was highlighted that setting up a business involves preparatory activities such as acquiring assets, establishing premises, and engaging in market research, which are integral to the business and precede actual trading activities.

The Court noted that the assessee had undertaken significant preparatory activities, including incorporation, renting office premises, opening a bank account, hiring employees, and engaging with potential suppliers. These activities were deemed sufficient to establish that the business was set up, even though actual trading had not commenced.

Issue 2: Whether the expenses incurred by the assessee prior to the commencement of business are deductible.

The Court examined whether the expenses incurred by the assessee prior to the commencement of business were deductible under Section 37 of the Income Tax Act. The AO had disallowed these expenses, asserting that they were incurred before the business was fully set up. However, the High Court noted that expenses incurred after the business is set up but before actual commencement are permissible deductions.

The Court cited various judgments, including CIT vs. ESPN Software India Pvt. Ltd., which held that business is a continuous course of activities, and expenses incurred during the preparatory stage can be deducted. The Court also referred to CIT vs. Aspentech India (P) Ltd., which allowed deductions for expenses incurred after setting up the business, even if actual trading had not commenced.

The High Court concluded that the assessee's activities, such as renting office space, hiring key personnel, and engaging with suppliers, demonstrated that the business was set up. Therefore, the expenses incurred during this period were deductible.

Conclusion:

The High Court ruled in favor of the assessee, holding that the business was set up during the relevant year, and the expenses incurred were deductible. The Court set aside the order of the Tribunal dated August 16, 2013, and allowed the appeal, emphasizing that the preparatory activities undertaken by the assessee were sufficient to establish that the business was set up, even though actual trading had not commenced.