IT Park Rental Income is Business Income, Not Property Income

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Case Name:

Commissioner of Income Tax Vs Elnet Technologies Limited (High Court of Madras)

Tax Case (Appeal) Nos.2336 and 2623 of 2006 and 2169 of 2008

Date: 9th October 2012

Key Takeaways:

1. The nature of income from leasing property depends on the specific circumstances of each case.

2. A company's Memorandum of Association is crucial in determining the nature of its income.

3. Providing infrastructure facilities for IT companies can be considered a business activity.

4. The court emphasized the importance of looking at each case from a businessman's point of view.

Issue: 

Whether the income derived from letting out property to tenants for running a software technology park should be classified as 'income from business' or 'income from house property' in the hands of the property owner?

Facts:

1. Elnet Technologies Limited was granted a 90-year lease on land by the Government of Tamil Nadu.

2. The company constructed a Software Technology Park with separate modules and uplinking facilities.

3. The company provided infrastructure facilities for IT companies to operate.

4. The main object of the company, as per its Memorandum of Association, was to establish and provide facilities for running computer centers and manufacturing software.

5. The company leased out modules of 3500 sq.ft. with high-tech infrastructural facilities.

Arguments:

Revenue's Argument:

- The Memorandum of Association doesn't explicitly mention leasing out property as a business proposition.

- The income should be treated as income from house property or other sources, not business income.

Assessee's Argument:

- The company's objects clearly indicate that its purpose was to establish and provide facilities to lease out to others for running computer software companies.

- The income earned is business income, as it aligns with the company's main objectives.

Key Legal Precedents:

1. SULTAN BROTHERS PVT. LTD v. CIT (51 ITR 353): Established that each case must be looked at from a businessman's point of view to determine if letting is business or property exploitation.

2. S.G.MERCANTILE CORPN. P. LTD v. C.I.T. (83 ITR 700): Discussed the distinction between income from property and business income.

3. EAST INDIA HOUSING AND LAND DEVELOPMENT TRUST LIMITED v. COMMISSIONER OF INCOME TAX (42 ITR 49): Addressed the issue of income falling under specific heads in the Income Tax Act.

Judgement:

The High Court upheld the Tribunal's decision, ruling that the lease rentals are assessable as business income. The court based its decision on:

1. The specific wording of Clause 1 in Part A of the Memorandum of Association, which indicates the company's purpose to establish and provide facilities for running computer industry.

2. The distinction between Clause 1 and Clause 2 in Part A, where Clause 1 focuses on providing facilities rather than running them directly.

3. The supporting clause in Part B that allows the company to acquire, construct, and maintain buildings for achieving its main objects.

FAQs:

1. Q: Why is the Memorandum of Association so important in this case?

  A: The Memorandum of Association outlines the company's primary objectives, which helps determine whether leasing out property is part of its core business or just an ancillary activity.

2. Q: Could this ruling apply to all companies leasing out property?

  A: Not necessarily. The court emphasized that each case must be considered based on its specific circumstances and the company's objectives.

3. Q: What's the difference between income from house property and business income?

  A: Income from house property is taxed based on the ownership of the property, while business income is taxed on the profits generated from business activities. The classification can affect the tax treatment and deductions available.

4. Q: How might this ruling impact other IT parks or similar facilities?

  A: This ruling could potentially benefit companies that build and lease out specialized facilities like IT parks, allowing them to classify the income as business income if it aligns with their core objectives.

5. Q: What factors did the court consider in making its decision?

  A: The court primarily looked at the company's Memorandum of Association, the nature of the facilities provided, and the intent behind the company's activities, viewing it from a businessman's perspective.

1. The above Tax Case (Appeals) are at the instance of the Revenue against the order of the Tribunal relating to assessment years 2001-02, 1995-96 and 1996-97 respectively by raising the following substantial questions of law:-

"1.Whether in the facts and in the circumstances of the case the Tribunal was right in holding that the income derived from letting out of property to the tenants for the purpose of running a software technology park as 'income from business' in the hands of the owner of the property?

2.Whether in the facts and circumstances of the case, the Appellate Tribunal was right in holding that the income from letting out of building comprising separate modules with uplinking facility with VSNL as income from business assessable under Section 28?"

2. T.C.(A).No. 2336 of 2006 was admitted on the above stated two questions of law, whereas, T.C.(A).Nos. 2623 of 2006 and 2169 of 2008 were admitted only on the second substantial question of law. The Tribunal followed the order made for the assessment year 1996-97 in respect of other two assessment years under independent discussion. The assessee company was granted lease of certain extent of land by Government of Tamil Nadu for a period of 90 years under lease deed dated 18.2.2005. The assessee company is incorporated under the Companies Act. The grant of lease was for the purpose of constructing a Software Technology Park as per G.O.Ms. No. 755, Industries Department dated 26.7.90. The assessee is stated to have constructed the Technology Park which comprised of separate modules with uplinking facility with BSNL. The company provided infrastructure facilities for the purpose of running IT company. The main object of the company as evident from the memorandum of association, which is relevant for the purpose of this case reads as under :-

1. To establish and provide facilities and amenities required to run, maintain, manage or administer computer centres for manufacturing or processing software packages and/or hardware materials and components required for computer industry.

2. To establish and run data processing / computer centres and to offer consultancy and data processing and other services which are normally offered by data processing computer centres to industrial, business and other types of customers and to impart training on electronic data processing, computer software and hardware to customers and others.

3. The objects incidental or ancillary to the attainment of the main objects are given in Part B of the Memorandum of Association, which reads as under:-

1. To purchase, take on lease, acquire, hire, construct, erect, build, repair, demolish and reconstruct, develop, improve and maintain buildings, structures, apartments and to do other similar constructions and for these purposes purchase, take on lease or otherwise acquire and hold any lands and prepare layout thereon and prepare lands for building purposes and preparing building sites by consolidating or connecting or sub-dividing properties or buildings of any tenure or descriptions wherever situated or rights or interests therein or connected therewith and advancing money to and entering into contracts and arrangements of all kind with builders, tenants, occupiers and others for the purpose of achieving the objects mentioned herein.

4. In tune with the objects, the assessee is stated to have given on licence the modules consisting of 3500 sq.ft. which contained high tech infrastructural facilities. In respect of income received on such licence, the assessee claimed that the said income was assessable as business income. The assessee's claim was however rejected by the Assessing Officer holding that the said income was assessable as income from the property. Aggrieved by the assessment, the assessee went on appeal before the Commissioner of Income Tax (Appeals), who held that the income from the leasing of property, at best, be treated as only income from other sources and not as income from house property nor could be treated as income from business. Referring to the decisions reported in 202 ITR 370 ORIENTAL COTTON CORPORATION AND MILLS LTD. v. CIT, 205 ITR 314 - GUJARAT GINNING AND MANUFACTURING COMPANY LIMITED v. CIT and 237 ITR 454 UNIVERSAL PLAST LIMITED v. CIT., Commissioner of Income Tax (Appeals) held that the objects of the company never spoke about the assessee using the module by itself, but it only allowed others to use the facilities on payment. The income was from investment made on modules. Hence, he reasoned out that the income from the assessment could be assessed as income from other sources. The assessee went on appeal before the Income Tax Appellate Tribunal. The Revenue did not file any appeal as against the order of the Commissioner of Income Tax (Appeals) in holding the receipt as income from other sources. Adverting to the Memorandum of Association, the Tribunal held that the main purpose of the assessee company was not letting out a mere building to the clients, but by providing the infrastructural facilities necessary for running the IT company. Referring to the series of case law relied on by the assessee as well as by the Revenue, the Tribunal held that the income could only be assessed as business income. In so holding, it also referred to the decision of the Tribunal in the case of CIT v. CHENNAI PROPERTIES AND INVESTMENTS LIMITED, MADRAS, in RA. No. 1262 (Mds) / 1992 in I.T.A.No. 2922 (Mds) / 1985, which was taken on reference before this Court. Thus, the appeal filed by the assessee was allowed. Aggrieved by the order of the Tribunal, the Revenue is on appeals before this Court.

5. Learned standing counsel for the Revenue referred to the Memorandum of Association and pointed out that in the memorandum, there is no clause or reference about assessee leasing out the property as business proposition and that the income could be treated as income from business. Referring to the decisions reported in 266 ITR 685 CIT v. CHENNAI PROPERTIES & INVESTMENTS LTD., he submitted that when the assessee having the lease for 90 years, exploited the property by constructing modules with all infrastructure facilities for use by IT companies and leasing out the same and realised the income by way of rent. The said rental income was to be assessed only as the income from house property. Referring to the decision of the Apex Court reported in 51 ITR 353 SULTAN BROTHERS PVT. LTD v. CIT, which was applied by this Court in the decision 266 ITR 685 CIT v. CHENNAI PROPERTIES & INVESTMENTS LTD., learned standing counsel for the Revenue submitted that the Tribunal committed an error in holding that the income from the lease property would only be treated as income from business. He also referred to the decision reported in 303 ITR 33 - C.I.T. v CHENNAI PROPERTIES AND INVESTMENTS LIMITED, 340 ITR 609 CIT v IDEAL GARDEN COMPLEX P. LTD, 274 ITR 117 CIT v. CHENNAI PROPERTIES & INVESTMENTS LTD, 263 ITR 143 SHAMBHU INVESTMENT P. LTD v. CIT in support of his contention that the income received on leasing of the property with all the facilities could not be taken otherwise as income from other sources or as income from business.

6. Per contra, learned counsel for the assessee supporting the order of the Tribunal pointed out that when the Commissioner of Income Tax (Appeals) had held that the income had to be assessed only as income from other sources, admittedly, the Revenue had not challenged the reasoning of the Commissioner of Income Tax (Appeals) and it was the assessee, who preferred the appeal to the Tribunal. Thus, as far as the Revenue is concerned, the reasoning of the Tribunal is binding and in the event of this Court not upholding the order of the Tribunal, the income would be assessable as income from other sources.

7. Leaving that aspect aside, admittedly, the objects of the company clearly pointed out that the purpose of formation of the company was for establishing and providing facilities so as to lease it out to others for running a computer software company. Going by the objects, the irresistible conclusion is that the income earned is only business income and no fault could be found on the decision of the Tribunal. He further pointed out the decision of the Apex Court reported in 51 ITR 353 SULTAN BROTHERS PVT. LTD v. CIT. and submitted that the question is as to whether the income could be taxed as business income or otherwise has to rest on the various clauses of the Articles of Association particular concern. Thus, on reading the memorandum of association, he submitted that rightly the Tribunal came to the conclusion that the income has to be assessed only as income from business.

8. Heard learned standing counsel for the Revenue as well as learned counsel for the assessee and perused the materials available on record.

9. In the decision reported in 51 ITR 353 SULTAN BROTHERS PVT. LTD v. CIT, the Apex Court pointed out that the question as to whether particular letting is business or not has to be decided in the circumstances of each case. The Apex Court pointed out that 'each case has to be looked at from a businessman's point of view to find out whether the letting was the doing of a business or the exploitation of his property by an owner'.

10. The said decision was applied in the decision reported in 83 ITR 700 S.G.MERCANTILE CORPN. P. LTD v. C.I.T., wherein the Supreme Court pointed out that the liability to tax under Section 9 of the Income Tax Act, 1922 is of the owner of the buildings or land appurtenant thereto. In case the assessee is the owner of the buildings or lands appurtenant thereto, he would be liable to pay tax under Section 9 even if the object of the assessee in purchasing the landed property was to promote and develop a market thereon. The Apex Court pointed out that the ownership of property and leasing it out may be done as a part of business, or it may be done as land-owner. Whether it is the one or the other must necessarily depend upon the object with which the act is done. It further pointed out that, 'the distinct heads specified in section 6 indicating the sources are mutually exclusive and income derived from different sources falling under specific heads has to be computed for the purpose of taxation in the manner provided by the appropriate section'. Referring to the decision reported in 42 ITR 49 -EAST INDIA HOUSING AND LAND DEVELOPMENT TRUST LIMITED v. COMMISSIONER OF INCOME TAX, the Apex Court pointed out that if the income from a source falls within a specific head set out in section 6, the fact that it may indirectly be covered by another head will not make the income taxable under the latter head. Thus, holding the Supreme Court held that the paramount consideration which would weigh is whether the acquisition of the property was by way of investment and whether the property was let out because of the assessee having a title in the same or whether the acquisition and letting out of the property constituted the business and trading activity of the assessee.

11. In considering whether the income arising on the leasing of the property was business of the assessee, one has to get into the nature of the business of the assessee to find out the receipts are assessable under the head of income from house property or as business income and if receipts does not fall in any of those classified heads, would fall consideration under the residuary head of income as income from other sources.

12. In the decision reported in 266 ITR 685 CIT v. CHENNAI PROPERTIES & INVESTMENTS LTD., this Court elaborately considered the decisions on the subject and on facts, came to the conclusion that as the owner of the building, the rental income received by the assessee on exploiting the property by letting out the same was liable to be assessed under the head 'Income from house property'. A reading of the decision referred to above thus shows a common thread of reasoning that in deciding whether the income on leasing out the property could be treated as income from property or business, the question has to be considered in the circumstances of each case and in the case of assessee being a company, the question has to be considered in the background of the object of the company and whether it is for leasing out the property or as a business to earn income.

13. Applying the said rulings to the facts of the case, on going through the articles of association, we agree with the contention of the assessee that the income received from the leasing out of the property with all amenities and facilities would be income from business only and can not be assessed either as income from house property or as income from other sources.

14. We had extracted in preceding paragraphs the main objects of the company as contained in Clause 1 and 2 of Part A. A reading of Clause 1 and 2 of Part A shows vast difference between two clauses. Clause(1) of Part A is regarding objects as to establish and provide facilities and amenities required to run, maintain, manage or administer computer centres for manufacturing or processing software packages and/or hardware materials and components required for computer industry. Clause 2 is regarding establishing and running of a data processing/ computer centres and to offer consultancy and data processing and other services which are normally offered by data processing computer centres to industrial, business and other types of customers and to impart training on electronic data processing, computer software and hardware to customers and others. Thus, in contra distinction to clause (2) which is about establishing and running data processing/ computer centres, clause (1) is to establish and provide facilities required to run the computer industry. If the assessee is intended to establish and provide for facilities for running computer industry by assessee itself, then clause (1) would have been worded differently in similar line as worded in Clause (2) of Part A. Considering the difference in the language in clause 1 and 2 of Part A, we have no hesitation in accepting the plea of the assessee that leasing of the modules with all facilities is part of the business of the assessee. Clause 1 of part A of the memorandum of Association is specific and relevant clause.

15. To achieve the object of Clause 1 of Part A, Clause 1 of Part B provides for objects which are incidental or ancillary to the attainment of the main objects. Clause 1 of Part B enables the company to take on lease, acquire, hire, construct, erect, build, repair, demolish and reconstruct, develop, improve and maintain buildings, structures, apartments and to do other similar constructions and for these purposes purchase, take on lease or otherwise acquire and hold any lands and prepare layout thereon and prepare lands for building purposes and preparing building sites by consolidating or connecting or sub-dividing properties or buildings of any tenure or descriptions wherever situated or rights or interests therein or connected therewith and advancing money to and entering into contracts and arrangements of all kind with builders, tenants, occupiers and others for the purpose of achieving the objects mentioned herein.

16. Thus, read in the context of Clause 1 of Part B and Clause 1 of Part A, we hold that when the company had taken lands on 90 years lease with the objects of constructing I.T. Company with all its infrastructural facilities, the same was for the purpose of establishing and providing the amenities required to run, maintain, manage or administer computer centres for manufacturing or processing software packages and / or hardware materials and components required for computer industry, to exploit it as a business proposition. In the face of these clauses, we have no hesitation in confirming the order of the Tribunal, thereby, holding that the lease rentals are asseassable as business income only. In the circumstances, rejecting the Tax Case (Appeals). No costs.

(C.V.,J) (K.R.C.B.,J)

Index : Yes/No 09.10.2012

Internet : Yes/No

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To

1. The Commissioner of Income Tax, Chennai

2. The Income Tax Appellate Tribunal, Madras A bench Chennai

3. The Income Tax Appellate Tribunal, Madras B bench Chennai

CHITRA VENKATARAMAN,J.

AND

K.RAVICHANDRABAABU,J.