2018 (9) TMI 344 - AT - Income Tax

Interest on FDs taxed in the hands of the assessee u/s.56 - Held that - If the assessee company receives any amount which is inextricably linked with the process of setting up its plant and machinery, such receipts will go to reduce the cost of its assets. Hence such receipts are capital in nature and cannot be taxed as income under income from other sources. The assessee company was formed to set up a mining project and the process of setting up was got delayed and deposits of share capital amount received from the share applicants with the bank in the form of fixed deposits for short term, is to be considered as inextricably linked with the process of setting of its plant and machinery. Accordingly, we hold that the interest earned by the assessee should not be treated as income from other sources and we allow the grounds of appeal of the assessee.

Issues Involved:
1. Computation of tax on interest earned by the company.
2. Classification of interest income as capital receipt or income from other sources.
3. Applicability of judicial precedents to the present case.

Detailed Analysis:

1. Computation of Tax on Interest Earned by the Company:
The assessee contested the computation of tax on the interest earned from fixed deposits made from shareholders' equity contributions. The company argued that this interest should be considered a capital receipt and not taxable, as it was linked to the setting up of the business. The assessee cited several judicial precedents to support its claim that such interest income should be capitalized and set off against pre-operative expenses.

2. Classification of Interest Income as Capital Receipt or Income from Other Sources:
The main issue was whether the interest earned on fixed deposits should be classified as a capital receipt or as income from other sources. The Assessing Officer (AO) and the Commissioner of Income Tax (Appeals) [CIT(A)] treated the interest as income from other sources, relying on the Supreme Court decision in Tuticorin Alkali Chemicals and Fertilizers Ltd. v. CIT. The assessee argued that this case was not applicable as the funds in question were equity contributions and not borrowed funds, and the interest was inextricably linked to the setting up of the business.

3. Applicability of Judicial Precedents:
The Tribunal considered various judicial precedents, including:
- CIT v. Bokaro Steel Ltd.: The Supreme Court held that income earned from activities directly connected to the construction of a plant should be treated as capital receipts.
- Indian Oil Panipat Power Consortium Ltd. v. ITO: The Delhi High Court ruled that interest earned on share application money, which was statutorily required to be kept in a separate account, should be adjusted towards the cost of raising share capital and not taxed as income from other sources.
- POSCO-India Pvt. Ltd. v. DCIT: The Tribunal held that interest earned on funds brought for specific business purposes should be capitalized and not treated as income from other sources.

Tribunal's Decision:
The Tribunal found that the interest earned on fixed deposits from shareholders' equity contributions was inextricably linked to the setting up of the business. It held that such receipts should be considered capital receipts and not taxable under income from other sources. The Tribunal emphasized that the funds were not surplus but were temporarily parked in fixed deposits due to delays in the project setup.

The Tribunal allowed the appeals for the assessment years 2011-2012, 2013-2014, and 2014-2015, concluding that the interest income should be capitalized and set off against pre-operative expenses. The Tribunal's decision was based on the principles established in the cited judicial precedents, particularly the rationale that if the income is directly linked to the setting up of the business, it should be treated as a capital receipt.

Conclusion:
The appeals were allowed, and the interest income earned on fixed deposits from shareholders' equity contributions was deemed a capital receipt, to be capitalized and set off against pre-operative expenses, rather than being taxed as income from other sources. The Tribunal's decision was consistent with the judicial precedents that support the treatment of such income as capital receipts when linked to the setting up of the business.

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