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TMI Blog2022 (7) TMI 269X X X X Extracts X X X X X X X X Extracts X X X X ..... f the difference and consequently at the end, there would be no difference in actual payment and amount of deduction claimed. Besides, the deduction of lease equalization reserve has been allowed by the Hon'ble Supreme Court in its recent judgment in the case of CIT-VI Versus Virtual Soft Systems Ltd. [ 2018 (4) TMI 1472 - SUPREME COURT] allowed the claim of lease equalization charges relying on the Guidance Note issued by the ICAI Accounting for leases . Hon'ble Court has held that the taxpayer can take recourse of Guidance note issued by the ICAI, particularly when there is no express bar in the Act. The ICAI publication i.e. Guidance Note reflects the best practices adopted by the accountants throughout the world. Hon'ble Delhi High Court in their recent decision in case of CIT vs. MGF India Ltd. [ 2018 (2) TMI 1535 - DELHI HIGH COURT] has also held that Lease equalization charges can be deducted while computing book profit. As per provisions of Companies Act, Accounting Standard and Income Tax Act, we hereby direct that the assessee is eligible for the claim of lease equalization charges. In the result, the appeal of the assessee on this ground is allo ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... thout prejudice to the above, the Ld. CIT(A) has erred on facts and in law in appreciating that the Assessee can be charged only on real income which can be calculated after applying the prescribed method. 4. The Ld. CIT(A) has erred on facts and in law by confirming the action of the Ld. AO in making disallowance of Rs. 36,21,491 on account of logo development expenses by treating them as capital in nature and disregarding the fact that the expenses are revenue in nature and incurred wholly and exclusively for the purpose of business. 4.1 Without prejudice to the above, the Ld. CIT(A) has erred on facts and in law in confirming the disallowance despite the fact that the contract was terminated mid way and the new logo was not delivered and no intangible asset alleged by the Ld. AO came into existence and the Assessee has submitted all documents in support of the claim. 4.2 The Ld. CIT(A) has erred on facts and in law by confirming the action of the Ld. AO without appreciating the fact that the expenses incurred are in nature of normal advertisement expenses and hence revenue in nature. 4.3 The Ld. CIT(A) has erred on facts and in law by confirming the action of ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ld right and determined the annual rent payable by the assessee to the lessee which is as under: a. For the period commencing from April 1st 2013 till March 31st 2016 shall be Rs.7,20,000/- (Rupees Seven Lakhs Twenty Thousand Only) per annum. b. For the period commencing from April 1st 2016 to March 31st 2021, shall be Rs.18,00,000/- (Rupees Eighteen Lakhs Only) per annum and c. For the period commencing from April 1st 2016 to March 31st 2023, shall be Rs.21,60,000/- (Rupees Twentry One Lakhs Sixty Thousand Only) per annum 8. The cumulative rent per year over the lease period of 10 years is Rs.154,80,000/- i.e. 15,48,000/- per year. For the period from 2013 to 2016, the assessee claims deduction of Rs.15,48,000/- which is more than Rs.7,20,000/- whereas the subsequent period, the assessee would be claiming deduction of only Rs.15,48,000/- against the payment of Rs.18,00,000/- and Rs.21,60,000/-. Thus, the question before us is whether the assessee is allowed to claim uniform deduction over the period of 10 years on the entire rent payable cumulatively or only the rent which is paid on annual basis. 9. For this purpose, we have gone through the Accounting Standard 19, ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 3.3 An operating lease is a lease other than a finance lease. 3.4 A non-cancellable lease is a lease that is cancellable only: (a) upon the occurrence of some remote contingency; or (b) with the permission of the lessor; or (c) if the lessee enters into a new lease for the same or an equivalent asset with the same lessor; or (d) upon payment by the lessee of an additional amount such that, at inception, continuation of the lease is reasonably certain. 3.5 The inception of the lease is the earlier of the date of the lease agreement and the date of a commitment by the parties to the principal provisions of the lease. 3.6 The lease term is the non-cancellable period for which the lessee has agreed to take on lease the asset together with any further periods for which the lessee has the option to continue the lease of the asset, with or without further payment, which option at the inception of the lease it is reasonably certain that the lessee will exercise. 3.7 Minimum lease payments are the payments over the lease term that the lessee is, or can be required, to make excluding contingent rent, costs for services and taxes to be ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... dual value accruing to the lessor. 3.15 Unearned finance income is the difference between: (a) the gross investment in the lease; and (b) the present value of (i) the minimum lease payments under a finance lease from the standpoint of the lessor; and (ii) any unguaranteed residual value accruing to the lessor, at the interest rate implicit in the lease. 3.16 Net investment in the lease is the gross investment in the lease less unearned finance income. 3.17 The interest rate implicit in the lease is the discount rate that, at the inception of the lease, causes the aggregate present value of (a) the minimum lease payments under a finance lease from the standpoint of the lessor; and (b) any unguaranteed residual value accruing to the lessor, to be equal to the fair value of the leased asset. 3.18 The lessee s incremental borrowing rate of interest is the rate of interest the lessee would have to pay on a similar lease or, if that is not determinable, the rate that, at the inception of the lease, the lessee would incur to borrow over a similar term, and with a similar security, the funds necessary to purchase the asset. ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... lue at the date the option becomes exercisable such that, at the inception of the lease, it is reasonably certain that the option will be exercised; (c) the lease term is for the major part of the economic life of the asset even if title is not transferred; (d) at the inception of the lease the present value of the minimum lease payments amounts to at least substantially all of the fair value of the leased asset; and (e) the leased asset is of a specialised nature such that only the lessee can use it without major modifications being made. 9. Indicators of situations which individually or in combination could also lead to a lease being classified as a finance lease are: (a) if the lessee can cancel the lease, the lessor s losses associated with the cancellation are borne by the lessee; (b) gains or losses from the fluctuation in the fair value of the residual fall to the lessee (for example in the form of a rent rebate equalling most of the sales proceeds at the end of the lease); and (c) the lessee can continue the lease for a secondary period at a rent which is substantially lower than market rent. 10. Lease classification is made at the inception of the l ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... .. + ALR + RV (1+r) 1 (1+r)2 (1+r)n (1+r)n Where ALR is annual lease rental, RV is residual value (both guaranteed and unguaranteed), n is the lease term, r is interest rate implicit in the lease. The present value of minimum lease payments from the standpoint of the lessee is ₹ 2,35,500. The lessee would record the machinery as an asset at ₹ 2,35,500 with a corresponding liability representing the present value of lease payments over the lease term (including the guaranteed residual value). (b) In the above example, suppose the lessor estimates that the machinery would have a salvage value of ₹ 17,000 on December 31, 20X2. The lessee, however, guarantees a residual value of ₹ 5,000 only. The interest rate implicit in the lease in this case would remain unchanged at 16% (approx.). The present value of the m ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ing liability. The finance charge should be allocated to periods during the lease term so as to produce a constant periodic rate of interest on the remaining balance of the liability for each period. Example In the example (a) illustrating paragraph 11, the lease payments would be apportioned by the lessee between the finance charge and the reduction of the outstanding liability as follows: Year Finance charge (Rs.) Payment (Rs.) Reduction in outstanding liability (Rs.) Outstanding liability (Rs.) Year 1 (January 1) 2,35,500 (December 31) 37,680 1,00,000 62,320 1,73,180 Year 2 (December 31) 27,709 1,00,000 72,291 1,00,889 Year 3 (December 31) 16,142 1,00,000 83, ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ng statute, make the following disclosures for finance leases: (a) assets acquired under finance lease as segregated from the assets owned; _______________ 1 Accounting Standard (AS) 28, Impairment of Assets , specifies the requirements relating to impairment of assets. (b) for each class of assets, the net carrying amount at the balance sheet date; (c) a reconciliation between the total of minimum lease payments at the balance sheet date and their present value. In addition, an enterprise should disclose the total of minimum lease payments at the balance sheet date, and their present value, for each of the following periods: (i) not later than one year; (ii) later than one year and not later than five years; (iii) later than five years; (d) contingent rents recognised as expense in the statement of profit and loss for the period; (e) the total of future minimum sublease payments expected to be received under non-cancellable subleases at the balance sheet date; and (f) a general description of the lessee s significant leasing arrangements including, but not limited to, the following: (i) the basis on which cont ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ases 26. The lessor should recognise assets given under a finance lease in its balance sheet as a receivable at an amount equal to the net investment in the lease. 27. Under a finance lease substantially all the risks and rewards incident to legal ownership are transferred by the lessor, and thus the lease payment receivable is treated by the lessor as repayment of principal, i.e., net investment in the lease, and finance income to reimburse and reward the lessor for its investment and services. 28. The recognition of finance income should be based on a pattern reflecting a constant periodic rate of return on the net investment of the lessor outstanding in respect of the finance lease. 29. A lessor aims to allocate finance income over the lease term on a systematic and rational basis. This income allocation is based on a pattern reflecting a constant periodic return on the net investment of the lessor outstanding in respect of the finance lease. Lease payments relating to the accounting period, excluding costs for services, are reduced from both the principal and the unearned finance income. 30. Estimated unguaranteed residual values used in computing the lessor s g ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... lessors sometimes quote artificially low rates of interest in order to attract customers. The use of such a rate would result in an excessive portion of the total income from the transaction being recognised at the time of sale. If artificially low rates of interest are quoted, selling profit would be restricted to that which would apply if a commercial rate of interest were charged. 36. Initial direct costs are recognised as an expense at the commencement of the lease term because they are mainly related to earning the manufacturer s or dealer s selling profit. 37. The lessor should make the following disclosures for finance leases: (a) a reconciliation between the total gross investment in the lease at the balance sheet date, and the present value of minimum lease payments receivable at the balance sheet date. In addition, an enterprise should disclose the total gross investment in the lease and the present value of minimum lease payments receivable at the balance sheet date, for each of the following periods: (i) not later than one year; (ii) later than one year and not later than five years; (iii) later than five years; (b) unearned finance in ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... s[4] that sets out the requirements for how an enterprise should perform the review of the carrying amount of an asset, how it should determine the recoverable amount of an asset and when it should recognise, or reverse, an impairment loss. 45. A manufacturer or dealer lessor does not recognise any selling profit on entering into an operating lease because it is not the equivalent of a sale. 46. The lessor should, in addition to the requirements of AS 6, Depreciation Accounting and AS 10, Accounting for Fixed Assets, and the governing statute, make the following disclosures for operating leases: (a) for each class of assets, the gross carrying amount, the accumulated depreciation and accumulated impairment losses at the balance sheet date; and _____________________ 2 Accounting Standard (AS) 28, Impairment of Assets , specifies the requirements relating to impairment of assets (i) the depreciation recognised in the statement of profit and loss for the period; (ii) impairment losses recognised in the statement of profit and loss for the period; (iii) impairment losses reversed in the statement of profit and loss for the period; (b) the fut ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... hich the asset is expected to be used. 51. If the leaseback is an operating lease, and the lease payments and the sale price are established at fair value, there has in effect been a normal sale transaction and any profit or loss is recognised immediately. 52. For operating leases, if the fair value at the time of a sale and leaseback transaction is less than the carrying amount of the asset, a loss equal to the amount of the difference between the carrying amount and fair value should be recognised immediately. 53. For finance leases, no such adjustment is necessary unless there has been an impairment in value, in which case the carrying amount is reduced to recoverable amount in accordance with the Accounting Standard dealing with impairment of assets. 54. Disclosure requirements for lessees and lessors apply equally to sale and leaseback transactions. The required description of the significant leasing arrangements leads to disclosure of unique or unusual provisions of the agreement or terms of the sale and leaseback transactions. 55. Sale and leaseback transactions may meet the separate disclosure criteria set out in paragraph 12 of Accounting Standard (AS) 5, Ne ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ect to a sale and leaseback. Note 2.- The profit would be the difference between fair value and sale price as the carrying amount would have been written down to fair value in accordance with paragraph 52. 10. Section 145(2) of the Income Tax Act, 1961 reads that the Central Government may notify in the Official Gazette from time to time income computation and disclosure standards to be followed by any class of assessees or in respect of any class of income. 11. Provisions of Section 129 of the Companies Act indicates that the financial statement shall give a true and fair view of the state of affairs of the company or companies, comply with the accounting standards notified under section 133 of the Companies Act and shall be in the form or forms as may be provided for different class or classes of companies in Schedule III: Provided that the items contained in such financial statements shall be in accordance with the accounting standards: Section 133 of the Companies Act indicate that the Central government may prescribe the standards of accounting or any addendum thereto, as recommended by the Institute of Chartered Accountants of India, constituted under section ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... Court allowed the claim of lease equalization charges relying on the Guidance Note issued by the ICAI Accounting for leases . Hon'ble Court has held that the taxpayer can take recourse of Guidance note issued by the ICAI, particularly when there is no express bar in the Act. The ICAI publication i.e. Guidance Note reflects the best practices adopted by the accountants throughout the world. 18. Relevant paras of the Hon ble Supreme Court judgment reproduced as under: 9. Section 211 of the Companies Act, 1956 as it stood before the amendment dealt with the Form and contents of balancesheet and profit and loss account . Sub clause (3C) of Section 211 was added vide 1999 amendment with retrospective effect The relevant portion of Section 211 of the Companies Act is reproduced herein as under: (3C) For the purposes of this section, the expression accounting standards means the standards of accounting recommended by the Institute of Chartered Accountants of India constituted under the Chartered Accountants Act, 1949 (38 of 1949), as may be prescribed by the Central Government in consultation with the National Advisory Committee on Accounting Standards established ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ance. Hence, we do not find any force in the contentions of the Revenue that the accounting standards prescribed by the Guidance Note cannot be used to bifurcate the lease rental to reach the real income for the purpose of tax under the IT Act. 17) To sum up, we are of the view that the Respondent is entitled for bifurcation of lease rental as per the accounting standards prescribed by the ICAI. Moreover, there is no express bar in the IT Act regarding the application of such accounting standards. 18) In view of above detailed discussion, we are not inclined to interfere in the impugned decision of the High Court. Accordingly, the appeal is hereby dismissed leaving parties to bear their own cost In view of the above, other connected appeals are also disposed off accordingly. 19. Further, Hon'ble Delhi High Court in their recent decision in case of CIT vs. MGF India Ltd. [2018] 91 taxmann.com 405 has also held that Lease equalization charges can be deducted while computing book profit. 20. In view of the above said judgments, provisions of Companies Act, Accounting Standard and Income Tax Act, we hereby direct that the assessee is eligible for the claim of leas ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... expenditure u/s 37(1) or business loss u/s 28(i) of the Act. 26. Further, it is a settled law that if expenditure incurred is in respect of the same business which is already carried on by the assessee, even if it is for the expansion of the business, namely, to start a new unit which is same as earlier business and there is unity of control and a common fund, then such an expense is to be treated as business expenditure. In such a case, whether a new business/asset comes into existence or not would become a relevant factor. If there is no creation of a new asset, then the expenditure incurred would be of revenue nature. 27. On this proposition, the Hon'ble Jurisdictional High Court of Delhi held as under: a) In the case of Indo Rama Synthetics (I) Ltd. [2011] 333 ITR 18 (Delhi) has held that Assessee-company had engaged services of an international firm of consultancy for carrying out a detailed study on various aspects relating to its operations and to suggest measures for improving operational efficiency and profitability of its business - However, based on review of cost benefit analysis, said assignment was terminated shortly after mandate had been given - In res ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... r the expansion of the business, namely, to start a new unit which is same as earlier business and there is unity of control and a common fund, then such an expense is to be treated as business expenditure. In such a case, whether a new business/asset comes into existence or not would become a relevant factor. If there is no creation of a new asset, then the expenditure incurred would be of revenue nature. However, if the new asset comes into existence which is of enduring benefit then such expenditure would be of capital nature. In the instant case, expenditure was incurred in respect of same business, which was already carried on by the assessee. Two projects which were undertaken were for the expansion of the same business, namely, one for taking over another cinema for conversion into multiplex and operation and management thereof and other for conversion of self- owned cinema into multiplex. Payments were made to the consultants for preparing feasibility reports in respect of both the projects. However, ultimately projects were not found to be financially and technically viable and were shelved. Thus, finding given, that no new asset came into existence, which was the bas ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... rightly applied by the Tribunal in the facts of the present case to hold that expenditure incurred was revenue in nature and not capital. d) In the case of CIT vs. Euro India Ltd. [2014] 45 taxmann.com 173 (Delhi) has followed the decision of Indo Rama Synthetics (I) Ltd. (supra) and held that where expenditure is incurred on obtaining feasibility report for expansion of existing business where there is unity of control and common funds, then such expenditure would be treated as business expenditure. e) Hon'ble Madras High Court in the case of Tamil Nadu Magnesite Ltd. vs. ACIT [2018] 95 taxmann.com 239 (Madras) has held that where assessee-company entered into an arrangement for implementation of a project which was later on ordered to be closed by Government, since said project was in same line of existing business of assessee and there was no creation of any new asset of enduring nature, entire exp. incurred on said project was to be allowed as revenue expenditure. f) Hon'ble Bombay High Court in the case of CIT vs. Rajesh Khanna [2012] 28 taxmann.com 415 and in the case of CIT vs. Venus Records Tapes (P.) Ltd. [2016] 66 taxmann.com 89 have held that entire ..... X X X X Extracts X X X X X X X X Extracts X X X X
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