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TMI Blog2010 (10) TMI 667X X X X Extracts X X X X X X X X Extracts X X X X ..... e and Cross Objection (C.O.) by the Assessee is arising out of the Order by the Commissioner of Income-tax (Appeals)-II Kochi ( CIT(A) for short) dated 29.9.2008, allowing the assessee s appeal against its assessment u/s. 143(3) of the Income-tax Act, 1961 ('the Act' hereinafter) dated 31.12.2007 for the assessment year (A.Y.) 2005-06. 2.1 The assessee is a Society under the Societies Registration Act, 1860, registered as a charitable institution u/s. 12A of the Act, engaged in running a hospital at Ernakulam. It filed its return of income for the year on 28.10.2005 showing nil income. A scrutiny of its Income and Expenditure statement during the course of the assessment proceedings, which was otherwise found to be in agreement with the books of accounts, also produced thereat, revealed it to bear a claim in respect of depreciation at Rs. 216.28 lakhs in terms of section 32(1) of the Act. As the cost of the capital assets on which depreciation had been claimed stood already claimed and allowed as an application of income in the preceding years, the same would not be available for deduction once again by way of depreciation allowance thereon, was the view of the Assessing Offic ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... s. 32(1) stood fully allowed as application of income under section 11(1) either for the current year or the preceding years, would not be of any consequence. Also, therefore, whether the assets on which depreciation is being claimed were acquired during the current year or the preceding years, is also inconsequential (para 4.7 4.8). Finally, with reference to the application of the decision in the case of Escorts Ltd. and Ors. vs. Union of India (supra), section 35(2)(iv) of the Act provides that where the deduction stands allowed u/s. 35, no depreciation in respect of the said asset would be allowed for the same or any other previous year. There is, as such, an express embargo on the claim of deduction u/s. 32(1)(ii) in respect of capital expenditure allowed u/s. 35(1)(iv), i.e., on a simultaneous claim under both the sections. There is no such restrictive provision in the present case for the said decision to be applicable (para 4.9). Accordingly, the entire claim of depreciation for Rs. 216.28 lakhs was allowed by him vide para 4.10 of the impugned order. Aggrieved, the Revenue is in appeal. 2.3 The assessee had also raised two additional grounds before him vide l ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... y the Revenue in that case, which undeniably forms the basis or the edifice of the assessment in the present case. Reference in this context may be drawn to the relevant part of the judgment, i.e., under the headings `Facts and `Findings appearing at pages 112 to 114 of the report. Further, even if taken as impliedly considered by the hon ble court, i.e., in view of the Question No. 1 referred there-to, the judgment in Escorts Ltd. Ors. vs. UOI (supra) was neither cited nor the application of its ratio, and also findings, consequently, considered by the hon ble court (refer para 4.2 of the order). Further still, as we shall presently see, there has been a material change in the law impacting the determination of book income u/s 11(1) since (refer para 4.6 of the order). The decision in the case of CIT v. Institute of Banking (supra), rendered without noticing the decision by the apex court in the case of Escorts Ltd. Ors. v. UOI (supra) and, secondly, under the pre-amended law, cannot be considered as conclusive of the instant assessment framed under the amended law on the basis of the said decision by the apex court. Ratio of the decision by the apex court in the case o ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... s held by the apex court. The fact that there are several instances in the Act wherein double deduction is specifically ruled out or barred, as mentioned at para 3(i)(pg. 3) of his order, stood also urged before the hon ble court (refer pg. 57), which found it as of no moment, given the nature of the expenditure and the underlying scheme of the Act. The said decision, thus, is to be considered as establishing the rule of non-double deduction, i.e., on the same expenditure or business outgoing, under the Act. 4.3 The second ratio of the decision is captured in and follows the following finding by it: (at pg. 46) The deduction of the allowance on scientific research assets and that of depreciation are basically of the same nature intended to enable the assessee to write off certain items of capital expenditure against his business profits. When a capital asset is used for scientific purposes, it is ipso facto also an asset used for the purposes of the business. The deduction on account of capital expenditure per se and depreciation allowance on the capital asset/s it represents, though under different heads, is to the same effect and purpose, and thus of the same nature, i. ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... g. 32) from the decision in the case of CIT vs. Indian Jute Mills Association (1982) 34 ITR 68 (Cal.) that expenditure incurred includes depreciation. This would also, incidently, answer the assessee s charge of the depreciation claimed being notional. If it is an expense, how could it be notional? There is nothing notional about depreciation. Expenditure in the capital field is incurred, leading to proprietary rights in a tangible or intangible asset(s), which has an estimated useful life. Depreciation only recognises the proportionate charge in its respect over the said life. If not so charged, the income would be overstated to that extent. At the end of its life, there would be no asset with the enterprise (except its salvage value, if any, and which most accounting texts stipulate for being also taken into account while determining the charge of depreciation), and the value to that extent lost there-to. Income, by definition, is what arises or inures (over a given period) over and above an existing (net) asset base or net- worth, i.e., as obtaining at the commencement of the said period, or accretion to capital. Each of the decisions cited by the assessee (refer para 2.2 ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... er, obsolescence, etc., and its purport is the same as for book depreciation, i.e., to enable write off of the capital expenditure. The decision in Escorts Ltd. vs. UOI (supra) clarifies this aspect of the matter also . Double deduction An analysis 4.5 We, next, deal with the question of whether allowing depreciation on capital assets, expenditure on which stands allowed u/s. 11(1) as an application of income, amounts to a double deduction or not. This is as doubt may be expressed that though deduction u/s. 35 is in computing the taxable income, the exemption u/s. 11 is toward application of income, which would arise only after determination thereof. To begin with, we think that the question is rendered academic in view of the consideration of the matter by the apex court in the case of Escorts Ltd. vs. UOI (supra) in all its facets, as also sought to be emphasized hereinabove. However, in view of the apparent difference afore-stated; the deductions therein being u/ss. 32 and 35, as against exemption u/s. 11 in respect of application of income and deduction u/s. 32, we may examine this aspect in some detail. 4.5.1 The Revenue s sole case being based and hinging on the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... taking the same (income) as consumed to that extent at the point of incurring the expenditure. In other words, the stand is inconsistent with the accounting theory, and which is what also led the apex court in Escorts Ltd. Othr. vs. UOI (supra) to hold, even observing that though the objectives of the two deductions, u/ss. 32 35, may be different and not completely overlap, yet are of the same nature. The controversy, if one may use that word, arises from mixing the two bases, i.e., cash and accrual, both equally valid in themselves, particularly where these have statutory recognition, but yet could not obtain simultaneously. While depreciation is claimed and allowed on accrual basis, as depletion of capital to that extent, the corresponding expenditure is claimed on cash basis. This is precisely the dichotomy which the AO points out when he says that allowing depreciation would lead to a anomalous situation whereby while the income would be reduced by the amount of depreciation, a non-cash charge, the assessee would have resources with it which it is not obliged to apply for charitable purposes and could be utilised for non- charitable purposes without attracting liability ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... capital assets, i.e., in the area of scientific research? The only difference is that while in the case of deduction u/s. 35, the income is to be applied in assets used for scientific research, in the case u/s. 11 the income is to same is to used for charitable or religious purposes, as the case may be, for which the trust/institution is formed. The difference as such is only in the underlying objective which the capital expenditure is incurred to achieve, i.e., scientific research in one case, and charitable or religious purpose in the other, with the Act using the tax break as the fiscal incentive to promote the same. A capital asset or capital expenditure, to the extent funded there-from, is only an application of income. Accounting principles do not permit a deduction in its respect (in computing income) on the premise of it yielding an asset with a useful life/utility for the enterprise much beyond the accounting period, i.e., an enduring benefit, and not a depletion of capital. This is also precisely the reason that the Board s Circular 5 P (supra), on which the assessee relies, clearly and unequivocally states that income, for the purposes of section 11(1), from whatever ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... not used at all, in the subsequent years? That would be clearly preposterous. Why, one may ask, should it be so used even for that year, i.e., why not for one month, or one week, or even one day after being paid for, i.e., the instant the transaction is complete? The application of income is only to be for public charitable purposes, and it is only the continued user of the asset for the stated purpose(s) (for its life/till retained) that would validate the premise or assumption on which deduction/exemption stands claimed and allowed. The application of income for charitable purposes, though deemed to be complete as soon as the capital expenditure is incurred (paid), is in reality a drawn out affair, entailing the user of the capital asset(s) for the said purpose/s. It may be appreciated that, in contradistinction to a revenue expenditure, no charitable purpose is served on incurring a capital expenditure resulting in a capital asset. For example, in the instant case, would the construction of the hospital building or purchase of the medical equipments, by itself lead to any charitable activity? Definitely not. It is only the subsequent user thereof for hospit ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... penditure), as also explained by the apex court, is basic and fundamental to the Act. It would be akin to taxing the same income twice. The reason for the controversy: Section 11, amended since 4.6 Now we may advert to the relevant provision, which reads as: Income from Property Held by a Charitable or Religious Institution 11. (1) Subject to the provision of s. 60 to 63, the following income shall not be included in the total income of the profession or of the person in respect of the income: a) income derived from property held under trust wholly .; b) income derived from property held under trust in part .; c) income derived from property held under trust created .; d) income in the form of voluntary contributions made with specific direction that they shall form part of the corpus of the trust or institution. Clause (d) to the sub-section stands inserted by Direct Tax Laws (Amendment) Act, 1989, w.e.f. 1.4.1989. Further, while the first three clauses, (a) to (c), of s. 11(1) carry an obligation for accumulation or set aside for application of income for the purposes of the charitable trust or institution, i.e., for it to be excluded in the comput ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e the result, the same only going to substitute the former asset, since exhausted. Why, we see it all the time in the case of business enterprises, where the capital assets are funded by infusion of capital or borrowings, i.e., apart from internal accruals, and depreciation is exigible under all circumstances, even as it is only the internal accruals (or accounting income) which stands to be subject to tax. It was this anomaly; there being no recognition or admission of contributions toward capital in the law, which stands addressed by insertion of clause (d) in section 11(1). As afore-stated, allowing deduction for depreciation could not be viewed as a double deduction in such a case. Put differently, the claim of double deduction assumes full validity only on insertion of section 11(1)(d) w.e.f. 1.4.1989. This is perhaps the reason why no claim for double deduction was made before the hon ble courts in the cited decisions. And even if made, being not applicable where income stands capitalized, would not hold. All the decisions relied upon and cited are rendered in the context of the extant provision of law, i.e., pre-1989, and are, thus, clearly distinguishabl ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... providing for proportionate share of such capital expenditure, would hold, and allowing it would be a clear case of double deduction, even as held by the apex court in the case of Escorts Ltd. vs. UOI (supra). Rates of depreciation normative or as per the Act? Next, we shall address the question as to whether depreciation shall be exigible at the rates prescribed under the Act or at rates justified by the useful life of the depreciable assets. Though it may be appear that this question does not arise for our consideration, it does. This is as all the decisions cited and relied upon have upheld the claim of depreciation only on rates that conform to or accord with the reality of their useful lives, and which (rate) may be far lower than those prescribed under the Act, with respect to which the assessee had made its claim. In this regard, we may advert to section 11(4) and 11(4A) of the Act. The same provide that the property held under trust could include a business undertaking as well where business is incidental to the object of the trust/institution and separate books of accounts in its respect are maintained. The AO is obliged to compute the income of such undert ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... computing the income u/s. 11(1) of the Act The judgment by the apex court in the case of Escorts Ltd. v. UOI (supra) settles conclusively the debate qua the admissibility of a double deduction on the same expenditure or outgoing under the Act even where the two deductions do not share the same rationale behind them and may not thus exactly overlap. It also clarifies the parity of deduction in respect of capital depreciation and the depreciation allowance on the capital asset represented thereby where used for intended purposes, so that deduction under both the heads would amount to a double deduction. Our examination of the applicability of the ratio of non-double deduction, as propounded by the apex court in the said case, in the instant case of a charitable institution, leads to the finding/s of the said decision being all the more applicable in view of the application being only of book income, and the user for the objects of the trust, a pre-requisite for allowance of depreciation, for charitable purposes being the implicit condition for deduction/exemption u/s. 11, so that there obtains a congruence or identity of objective and rationale between the deductions u/ss. 11 3 ..... X X X X Extracts X X X X X X X X Extracts X X X X
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