1997 (7) TMI 4 - SC - Income Tax

Income by Overriding Title - Whether a particular receipt is of nature of income falls within the charge of s. 4 is a question of law which has to be decided on the basis of the provisions of the Act the interpretation of the term income - held that income attracts tax as soon as it accrues. The application/destination of the income has nothing to do with its accrual/taxability - held that interest income is always of a revenue nature unless it is received by way of damages/compensation.

Issues Involved:
1. Taxability of interest income earned from short-term deposits.
2. Classification of interest income under the Income-tax Act, 1961.
3. Applicability of accounting practices versus statutory provisions.
4. Set-off of interest income against interest expenses.

Detailed Analysis:

1. Taxability of Interest Income Earned from Short-Term Deposits:
The primary issue was whether the interest income earned by the assessee from short-term deposits made with borrowed funds, before the commencement of business, was taxable. The court held that "interest derived by the assessee from the borrowed funds which were invested in short-term deposits with banks would be chargeable to tax under the head 'Income from other sources'." The court emphasized that income generated from surplus funds, even if borrowed, is of a revenue nature and thus taxable. The court rejected the argument that such income should be adjusted against pre-production expenses, including interest and finance charges.

2. Classification of Interest Income under the Income-tax Act, 1961:
The court clarified that under the Income-tax Act, 1961, the total income of an assessee is chargeable to tax under section 4 and must be computed in accordance with the provisions of the Act. Section 14 classifies income into six heads, including "Income from other sources." The court noted that interest income from bank deposits and loans, even before the commencement of business, falls under this head. The court cited the principle that income is taxable as soon as it accrues, regardless of its application or destination.

3. Applicability of Accounting Practices versus Statutory Provisions:
The assessee argued that according to accepted accounting practices, interest income should be set off against interest expenses and capitalized. However, the court held that "accounting practice cannot override section 56 or any other provision of the Act." The court referred to previous judgments, including B. S. C. Footwear Ltd. v. Ridgway, where it was established that income-tax law does not necessarily follow accounting practices. The court stated that while accounting practices may inform the understanding of terms not defined in the Act, they cannot contradict statutory provisions.

4. Set-off of Interest Income Against Interest Expenses:
The court addressed the argument that the interest income should be set off against interest expenses on borrowed funds. The court held that "no adjustment can be allowed except in accordance with the provisions of the Income-tax Act." The court explained that specific provisions in the Act, such as sections 70 and 71, govern the set-off of losses and that these provisions did not apply in this case because the assessee's business had not commenced. Therefore, the interest income could not be adjusted against interest expenses under any provision of the Act.

Conclusion:
The court concluded that the interest income earned from short-term deposits is taxable under the head "Income from other sources." The court upheld the decision of the Tribunal and answered the referred question in favor of the Revenue, affirming that the interest income is chargeable to tax and cannot be adjusted against pre-production expenses or interest payable on borrowed funds. The references were disposed of with no order as to costs.

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