2018 (12) TMI 762 - HC - Income Tax

Allowability of project expenses - deduction u/s 37 - The expenditure incurred to carry out social and economic development for the village poor - Held that - The object and purpose of the respondent-assessee is to engage and work for social and economic upliftment of the rural poor, construct water reservoirs etc. It is established for this purpose and receives grants and donations from third parties with the said objective and purpose. M/s Indian Farmers Fertilizer Cooperative Ltd. had sold and supplied fertilizer that was marketed/sold by the assessee to earn profit/income, because the assessee was engaged in social and economic development activities. The expenditure incurred to carry out social and economic development would in this background constitute a business or commercial activity undertaken by the assessee. It would be a contradiction in terms, if we hold that the expenditure would be non-deductible expenditure or expenditure without business expediency. Under section 37 it does not matter whether or not the expenditure was in the nature of donation or Section 80G of the Act was not attracted. The conditions stated in Section 37 of the Act matter and constitute the test. Expenditure incurred in furtherance of and connected with the business and commercial activities for which the assessee was established cannot be disallowed as expenditure not relatable and incurred for business purposes. On the question of capital expenditure, the assessing officer did not refer to or examine whether the capital assets created were for third party villagers. The assessee was not the owner of the assets created and developed. The assets created were not capital assets in the hands of the assessee. The assessee had contributed, developed, financed and created assets which belonged to third persons. The expenditure incurred therefore would not be capital in nature in the hands of the respondent assessee. - decided against revenue

Summary

Issues Involved:
1. Deductibility of project expenses under Section 37(1) of the Income-Tax Act, 1961.
2. Nature of expenses: Whether the expenses were capital or revenue in nature.
3. Commercial expediency and business purpose of the expenses.

Issue-wise Detailed Analysis:

1. Deductibility of Project Expenses under Section 37(1) of the Income-Tax Act, 1961:
The primary issue was whether the expenses incurred by the respondent-assessee towards various social development activities could be deducted under Section 37(1) of the Income-Tax Act, 1961. The Assessing Officer disallowed the deduction, arguing that the expenses were in the nature of donations and not incurred wholly and exclusively for business purposes. The Commissioner of Income Tax (Appeals) and the Tribunal, however, disagreed, holding that the expenses were incurred to fulfill the objectives for which the respondent-assessee was established, which included social and economic upliftment. The Tribunal emphasized that the assets created (forests, check dams, ponds) were owned by villagers, not the respondent-assessee, thus the expenses were not capital in nature and were incurred for business purposes.

2. Nature of Expenses: Capital or Revenue:
The Assessing Officer argued that the expenses should be disallowed as they were capital in nature. However, the Commissioner of Income Tax (Appeals) and the Tribunal found that the respondent-assessee did not create any tangible capital assets for itself. The assets created were for the benefit of villagers and were not owned by the respondent-assessee. Therefore, the expenses were not capital in nature but were incurred to carry out the business objectives of the respondent-assessee, making them deductible under Section 37(1).

3. Commercial Expediency and Business Purpose of the Expenses:
The judgment highlighted that the expenses were incurred for commercial expediency and were necessary to run, operate, and continue the business of the respondent-assessee. The Court referred to various precedents, including Ram Bahadur Thakur Ltd. Vs. Commissioner of Income Tax and Additional Commissioner of Income Tax, Bhopal Vs. Kuber Singh Bhagwandas, to establish that expenditures incurred voluntarily on grounds of commercial expediency are deductible if they indirectly facilitate the carrying on of the business. The Court noted that the respondent-assessee's activities were intertwined with its business operations, and the income earned was taxed under the head "profits and gains of business and profession." Thus, the expenses were incurred wholly and exclusively for business purposes, qualifying for deduction under Section 37(1).

Conclusion:
The High Court upheld the decisions of the Commissioner of Income Tax (Appeals) and the Tribunal, dismissing the Revenue's appeal. The Court concluded that the expenses incurred by the respondent-assessee were deductible under Section 37(1) as they were incurred for business purposes, were not capital in nature, and were necessary for the commercial expediency of the respondent-assessee's operations. The appeal filed by the Revenue was dismissed without any order as to costs.