2022 (11) TMI 176 - AT - Income Tax

Disallowing the indexed cost of expenditure - capital expenditure - Disallowance of Indexed cost of expenses by not treating the same as capital expenditure - whether these expenses can be capitalised as cost of improvement towards the land? - HELD THAT - AO has rightly observed that none of these expenses have direct nexus in improvement of the land. Even at the appellate stage, the assessee could not demonstrate the factual matrix as to which part of expenses are related to the improvement of the land. Assessee relied on the decision in the case of Chellapalli Sugars Ltd. 1974 (10) TMI 3 - SUPREME COURT However, it does not support the case of the assessee as no such interest expenses were there. Moreover, the proviso to section 36 clause (1) sub-clause (iii) also makes the interest on capital asset to be disallowed till it commences production. Assessee could not demonstrate any nexus in improvement of land to preoperative expenses. Hence, it cannot be capitalised. Even reliance placed by the assessee in the case of Cosmic Kitchen Pvt. Ltd. 2005 (11) TMI 530 - ITAT DELHI is also mis-placed since the facts in assessee s case are substantially different where none of the expenses have been incurred towards improvement of the land. As been rightly observed by the CIT(A) that whatever expenses the assessee is claiming are pre-operative expenses and they are allowable u/s 35D - The other expenses which are not allowable u/s 35D needs to be capitalised, but there has to be a direct nexus between such capitalisation of pre-operative expenses to the concerned asset. In this case, neither before the Revenue authorities nor before us, the assessee was able to explain the direct nexus of these expenses with the improvement of the land. Even the case laws relied on by the assessee is substantially different on facts. Since in the case of the assessee, the expenses were not incurred towards improvement of land, hence we do not find any reason to interfere with the findings of the CIT(A) which is hereby upheld. Grounds of appeal of the assessee are dismissed.

Summary

Issues: Disallowance of indexed cost of expenses as capital expenditure for computing capital gain

Analysis:
1. Factual Background: The assessee filed a return of income declaring total income for A.Y. 2015-16. A survey under section 133(2) was conducted on a sister concern, leading to the declaration of additional income as capital gain from selling part of land to another entity.

2. Disallowed Expenses: The Assessing Officer (A.O) noted a shortfall in the declared long-term capital gain and disallowed indexed cost of expenses amounting to Rs. 13,18,124, stating they were not related to the capital asset. The A.O rejected the computed capital gain based on this disallowance.

3. Arguments Before CIT(A): The assessee contended that the expenses like auditors' fees, advertisement, bank commission, etc., were capitalized and apportioned to the land area. However, the A.O rejected this explanation, invoking section 55(1)(b) of the Income-tax Act, stating the expenses lacked a nexus to the capital asset.

4. CIT(A) Decision: The CIT(A) observed that the expenses were pre-operative in nature as sugar production had not commenced. He noted that these expenses could be capitalized under section 35D upon production commencement. The CIT(A) emphasized the necessity of a direct nexus between the expenses and land improvement for capitalization.

5. Judgment: The Tribunal upheld the CIT(A)'s decision, stating that the expenses claimed by the assessee were pre-operative and allowable under section 35D. However, for expenses not covered under section 35D, a direct nexus to land improvement was crucial for capitalization. As the assessee failed to establish this nexus, the disallowance was upheld, dismissing the appeal.

6. Conclusion: The Tribunal dismissed the appeal, affirming the disallowance of indexed cost of expenses as capital expenditure due to the lack of a direct nexus to land improvement. The decision emphasized the importance of establishing a clear connection between expenses and the asset for capitalization, in line with relevant provisions of the Income-tax Act.