Court Rules Interest on Share Application Money as Capital Expenditure, Not Revenue

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Case Name: 

Commissioner of Income Tax and Ors. Vs GMR Industries Ltd. (High Court of Karnataka)

ITA No.390 of 2010

Date: 31st January 2020

Key Takeaways:

1. Interest paid for delay in share allotment is considered capital expenditure, not revenue.

2. Expenses related to expanding share capital fall in the capital field, even if they might help in profit-making.

3. The court reinforced that there can't be two different incomes for Companies Act and Income Tax Act purposes.

4. The Assessing Officer has limited power to make adjustments under Section 115JB (of Income Tax Act, 1961).

Issue: 

The main question here was: Is interest paid for delay in allotment of shares a revenue expenditure or a capital expenditure?

Facts: 

1. GMR Industries Ltd. (our assessee) received Rs.75.60 Crores as share application money from GMR Investments Pvt. Ltd. 

2. They only allotted shares worth Rs.27.5 Crores on March 2, 2003. The rest remained as share application money. 

3. Because they didn't allot all the shares within the agreed time, they had to pay 8% interest on the money. 

4. For the 2003-2004 assessment year, they claimed this interest (Rs.395.87 lakhs) as a business expenditure under Section 36(1)(iii) (of Income Tax Act, 1961). 

Arguments:

The assessee (GMR Industries) said:

1. This isn't about raising share capital; they paid interest due to a contractual obligation.

2. The profit & loss account, certified by auditors, should be the basis for taxing book profits.

The revenue (Income Tax Department) argued:

1. This is capital expenditure related to raising share capital, so it can't be allowed as a deduction.

2. Under Section 115JB (of Income Tax Act, 1961), this amount can't be deducted from book profits.

Key Legal Precedents:

1. 'BROOKE BOND INDIA LTD. VS. COMMISSIONER OF INCOME-TAX', (1997) 225 ITR 798 (SC):

This case established that expenses for expanding a company's capital base are capital expenditures. 

2. 'APOLLO TYRES' case (exact citation not provided in the context):

This case ruled that there can't be two different incomes for Companies Act and Income Tax Act purposes. 

Judgement:

The High Court ruled in favor of the revenue:

1. They said the interest paid is indeed a capital expenditure because it's related to expanding the company's capital base.

2. They also agreed that the CIT(Appeals) and Tribunal shouldn't have allowed deducting prior period expenditure when calculating book profits under Section 115JB (of Income Tax Act, 1961).

FAQs:

Q1: Why did the court consider this interest as capital expenditure?

A1: The court saw it as directly related to expanding the company's capital base, which puts it in the capital field.

Q2: Can companies now never claim interest on share application money as a revenue expense?

A2: Based on this judgment, it seems unlikely. However, each case might have unique circumstances.

Q3: What's the significance of the 'APOLLO TYRES' case here?

A3: It reinforced that there can't be separate incomes for Companies Act and Income Tax Act purposes, limiting how much the assessing officer can adjust book profits.

Q4: Does this mean companies should be more careful about delayed share allotments?

A4: Absolutely! This ruling suggests that interest paid due to delays could be treated as capital expenditure, which isn't tax-deductible.

This appeal under Section 260A (of Income Tax Act, 1961) (hereinafter referred to as ‘the Act’, for short) has been filed by the revenue. The issues, which arises for consideration is whether interest paid for delay in allotment of shares is also an expenditure like brokerage/commission connected with raising of share capital and partakes the character of share capital or the same can be treated as revenue expenditure. The appeal was admitted on 30.05.2011, on the following substantial questions of law:

(i) Whether the finding of the appellate Authorities that the payment of interest on share application money is revenue expenditure when share application money was received by the assessee as a capital is perverse and arbitrary and contrary to law?

(ii) Whether the Appellate Authorities were correct in dealing the addition made on account of prior period expenditure while computing book profits under Section 115JB (of Income Tax Act, 1961), when the Book Profits has to be computed on the basis of net profits is unsustainable?

2.Facts leading to filing of this appeal in a nutshell are that the Assessee, had debited interest of Rs.395.87/- lakhs as interest on share application money pending allotment of preference shares for the assessment year 2003-2004. The Assessee responded to the query of the Assessing Officer stating that it has received share application money of Rs.75.60/- Crores from one GMR Investments Pvt. Ltd., for allotment of cumulative redeemable preference shares. The company made allotment of preference shares to the tune of Rs.27.5/- Crores on 02.03.2003 and the unallotted amount remained as share application money. As the allotment was not made within specify period, as agreed upon, the assessee paid interest at the rate of 8% from the date of receipt of share capital money and also subsequent period on the balance share capital money. The assessee claimed the aforesaid amount as business expenditure under Section 36(1)(iii) (of Income Tax Act, 1961).

3. The Assessing Officer by an order dated 31.03.2006 inter alia held that share application money was not a borrowed amount and no debtor-creditor relationship existed. It was further held that interest paid for delay in allotment of shares is also an expenditure like brokerage/commission connected with raising of share capital and therefore, all the expenditure including interest on share application money being connected with share capital cannot be allowed as deduction. It was also held that prior period expenses changed to profit and loss appropriation account cannot be deducted from the profit of the year for the purpose of book profit. Being aggrieved, the assessee filed an appeal before Commissioner of Income Tax (Appeals).

4. The Commissioner of Income Tax (Appeals) by an order dated 16.04.2007 reversed the order of the Assessing Officer, and while relying on decision of the Income Tax Appellate Tribunal in ‘DCIT VS. MANIPAL INDUSTRIES LIMITED’, (1997) 61 ITD 49 held that interest on share application money could be allowed revenue expenditure. The Revenue filed an application before the Income Tax Appellate Tribunal. The Tribunal vide order dated 31.03.2010 dismissed the appeal preferred by the revenue. In the aforesaid factual backdrop, this appeal has been filed.

5. Learned counsel for the revenue submitted that assessee’s claim for raising shall capital can not be allowed, as it is a capital expenditure. Our attention has also been invited to Section 115 (of Income Tax Act, 1961) JB of the Act and it is pointed out the amount claimed by the assessee cannot be debited to the statement of profit and loss, as same cannot be reduced as it does not fall within explanation to Section 115JB(1) (of Income Tax Act, 1961). It is also urged that prior period expenses charged to profit and loss account cannot be deducted from the profit of year for the purpose of book profit. In support of aforesaid submissions reliance has been placed on ‘COMMISSIONER OF INCOME TAX VS. KHAITAN CHEMICALS & FERTILIZERS LTD.,’, (2008) 307 ITR 0150, ‘DEPUTY COMMISSIONER OF INCOME TAX VS. CORE HEALTH CARE LTD.,’ (2008) 298 ITR 0194, ‘COMMISSIONER OF INCOME-TAX VS. KARNATAKA SOAPS & DETERGENTS LTD.’, (2015) 64 TAXMANN.COM 378 (SC) and ‘THE COMMISSIONER OF INCOME TAX CENTRAL CIRCLE AND ANOTHER VS. M/S KARNATAKA SOAPS & DETERGENTS LTD.,’, ITA NO.257/2007 AND CONNECTED MATTERS DECIDED ON 13.10.2014.

6. On the other hand, learned counsel for assessee submitted that instant case is not a case of expenditure raising share capital, and the interest was paid under a contractual obligation. It is further submitted that once a profit & loss account is prepared in accordance with Part II and III of Schedule VI to the Companies Act and is certified by Auditors, it becomes the basis for levying tax on book profit and not the amount shown in printed balance sheet as the same is prepared for the benefit of share holders. It is also contended that next profit was to be computed on the basis of profit and loss account. In support of his submissions, reference has been made to decisions in ‘BROOKE BOND INDIA LTD. VS. COMMISSIONER OF INCOME-TAX’, (1997) 225 ITR 798 (SC), ‘T.T.N.TEXTILES LT. VS. DEPUTY COMMISSIONER OF INCOME-TAX’, (2010) 326 ITR 352 (KERALA) and ‘HINDUSTAN LEVER LTD. VS. COMMISSIONER OF INCOME-TAX, BOMBAY’, (2017) 88 TAXMANN.COM 534 (BOMBAY).

7. We have considered the submissions made on both sides and have perused the record. The Supreme Court in BROOKE BOND INDIA LTD., supra has held that all the expenses incurred for expansion of capital base of the company was directly related to the capital incidentally, that would help in profit making. When the object of the Assessee is to increase share capital, the expenses incurred in expanding share capital would be in capital field. In the instant case also the assessee with an object to increase share capital has incurred expenses in the form of payment of interest on account of delay in allotment of shares, yet the increase in capital results in expansion of the capital base of the company and may also help in profit making. Therefore, it retains it’s character as capital expenditure as the expenditure is directly relatable to expansion of the capital base of the company. For the aforementioned reasons the first substantial question of law is answered in the affirmative and in favour of revenue.

8. The Supreme Court in APOLLO TYRES supra has held that there cannot be two incomes one for the purpose of Companies Act and another for the purpose of Income Tax Act. It has further been held that Assessing Officer while computing the income under Section 115J (of Income Tax Act, 1961) has power to examine whether books of accounts are certified by the authorities under the Companies Act and the Assessing Officer has limited power of making increase and deductions as provided in the explanation to Section 115J (of Income Tax Act, 1961). It is pertinent to note that provisions of Section 115J (of Income Tax Act, 1961) or Section 115JB (of Income Tax Act, 1961) are parimateria. It has further been held that Section 115J(1A) (of Income Tax Act, 1961) empowers the authority under the Income Tax Act, 1961 to probe into the accounts accepted by the authorities under the companies Act. In the instant case, deletion as sought for by the assessee does not fall within the purview of Section 115 (of Income Tax Act, 1961) JB of the Act. Therefore, the Commissioner of Income Tax (Appeals) and the tribunal were not justified in deducting the addition made on account of prior period expenditure while computing book profits under Section 115 (of Income Tax Act, 1961) JB of the Act. The second substantial question of law is therefore, answered in the negative and in favour of the revenue.

In view of proceeding analysis, the order passed by the Income Tax Appellate Tribunal and Commissioner of Income Tax (Appeals) are quashed and the order passed by Assessing Officer is affirmed.

In the result, the appeal is allowed.

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JUDGE

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JUDGE