SUPREME COURT OF
Deputy Commissioner of Income-tax
v.
Core Health Care Ltd.
S.H. Kapadia and B. Sudershan Reddy, JJ.
Civil Appeal Nos. 3952 to 3955 of 2002
February 8, 2008
Section 36(1)(iii), read with Explanation 8 to section 43(1), of the Income-tax
Act, 1961 - Interest on borrowed capital - Assessment year 1992-93 - Whether
proviso inserted in section 36(1)(iii) with effect from 1-4-2004 has to be read
as prospectively - Held, yes - Whether what section 36(1)(iii) emphasizes on
is user of capital and not user of asset which comes into existence as a result
of borrowed capital, unlike section 37(1) which expressly excludes an expense
of a capital nature - Held, yes - Whether Legislature has, therefore, made no
distinction in section 36(1)(iii) between ‘capital borrowed for a revenue
purpose’ and ‘capital borrowed for a capital purpose’ and an assessee is
entitled to claim interest paid on borrowed capital provided that capital is
used for business purpose irrespective of what may be result of using such
borrowed capital - Held, yes - Whether Explanation 8 to section 43 as well as
concept of determination of ‘actual cost’ have no application to section
36(1)(iii) as this section does not incorporate concept of depreciation - Held,
yes - Assessee had a running business of manufacturing and selling of
intravenous solutions - It installed new machineries on which production was
not started during relevant year - Assessee claimed deduction of interest on
borrowings made for purchasing these machineries - Whether assessee’s claim was
to be allowed - Held, yes
The assessee-company was engaged in the business of manufacturing and sale of intravenous solutions. During the assessment year under consideration, the assessee had installed new machinery and claimed deduction of interest on borrowings. The Assessing Officer disallowed the amount on the ground that during the year assessee had installed new machinery on which production was not started. On appeal, the Commissioner (Appeals) confirmed the addition of interest amount to the income of the assessee. On appeal, the Tribunal held that the department was not justified in adding the amount to the income of the assessee. This decision was confirmed by the High Court.
On appeal to the Supreme Court,
Interest on moneys borrowed for the purposes of business is a necessary item of expenditure in a business. For allowance of a claim for deduction of interest under the said section, all that is necessary is that - firstly, the money, i.e., capital, must have been borrowed by the assessee; secondly, it must have been borrowed for the purpose of business; and, thirdly, the assessee must have paid interest on the borrowed amount [See : Calico Dyeing & Printing Works v. CIT (1958) 34 ITR 265]. All that is germane is : Whether the borrowing was, or was not, for the purpose of business. The expression ‘for the purpose of business’ occurring in section 36(1)(iii) indicates that once the test of ‘for the purpose of business’ is satisfied in respect of the capital borrowed, the assessee would be entitled to deduction under section 36(1)(iii). This provision makes no distinction between money borrowed to acquire a capital asset and a revenue asset. All that the section requires is that the assessee must borrow capital and the purpose of the borrowing must be for business which is carried on by the assessee in the year of account. What sub-section (iii) emphasizes on is the user of the capital and not the user of the asset which comes into existence as a result of the borrowed capital, unlike section 37 which expressly excludes an expense of a capital nature. The Legislature has, therefore, made no distinction in section 36(1)(iii) between ‘capital borrowed for a revenue purpose’ and ‘capital borrowed for a capital purpose’. An assessee is entitled to claim interest paid on borrowed capital provided that the capital is used for business purpose irrespective of what may be the result of using the capital which the assessee has borrowed. Further, the words ‘actual cost’ do not find a place in section 36(1)(iii), otherwise find place in sections 32, 32A, etc. The expression ‘actual cost’ is defined in section 43(1) which is essentially a definition section and is subject to the context to the contrary. [Para 8]
Section 43 groups together all provisions in the nature of definitions or interpretations relevant to the computation of income under the head ‘Profits and gains of business’. Section 43(1) defines ‘actual cost’. The definition of ‘actual cost’ has been amplified by excluding such portion of the cost as is met directly or indirectly by any other person or authority. Explanation 8 has been inserted to section 43(1) by the Finance Act, 1986, with retrospective effect from 1-4-1974. It is important to note that the words ‘actual cost’ would mean the whole cost and not the estimated cost. ‘Actual cost’ means nothing more than the cost accurately ascertained. The determination of actual cost given in section 43(1) has relevancy in relation to section 32 (depreciation allowance); section 32A (investment allowance); section 33 (development rebate allowance) and section 41 (balancing charge). ‘Actual cost’ of an asset has no relevancy in relation to section 36(l)(iii). This reasoning flows from a bare reading of section 43(1). Section 43 defines certain terms relevant to income from profits and gains of business and, therefore, the said section commences with the words. ‘In sections 28 to 41 and unless the context otherwise requires’ ‘actual cost’ shall mean the actual cost of the assets to the assessee, reduced by that portion of the cost thereof, if any, as has been met directly or indirectly by any other person or authority. In other words, Explanation 8 applies only to sections like sections 32, 32A, 33 and 41 which deal with concepts like depreciation. The concept of depreciation is not there in section 36(l)(iii). That is why the Legislature has used the words ‘unless the context otherwise requires’. Hence, Explanation 8 has no relevancy to section 36(l)(iii). It has relevancy to the aforementioned enumerated sections. Therefore, Explanation 8 had no application to the facts of the instant case. [Para 10]
A proviso has since been inserted in section 36(l)(iii). That proviso has been inserted by the Finance Act, 2003 with effect from 1-4-2004. Hence, the said proviso will not apply to the facts of the instant case. Further, the said proviso would operate prospectively. In this connection, it may be noted that by the same Finance Act, 2003, insertions have been made by way of proviso in section 36(l)(viia), which is made effective from 1-4-2004. Same is the position with regard to insertion of a sub-section after section 90(2). This insertion also operates with effect from 1-4-2004. In short, the above amendments have been made by the Finance Act, 2003 and have been made operational with effect from 1-4-2004. Therefore, the proviso inserted in section 36(l)(iii) has to be read as prospectively and with effect from 1-4-2004. In this case, the law concerned was as it existed prior to 1-4-2004. [Para 11]
Section 36(l)(iii) has to be read on its own terms. It is a code by itself. Section 36(1)(iii) is attracted when the assessee borrows the capital for the purpose of his business. It does not matter whether the capital is borrowed in order to acquire a revenue asset or a capital asset, because all that the section requires is that the assessee must borrow the capital for the purpose of his business. This dichotomy between the borrowing of a loan and actual application thereof in the purchase of a capital asset, seems to proceed on the basis that a mere transaction of borrowing does not, by itself, bring any new asset of an enduring nature into existence, and that it is the transaction of investment of the borrowed capital for the purchase of a new asset which brings that asset into existence. The transaction of borrowing is not the same as the transaction of investment. If this dichotomy is kept in mind it becomes clear that the transaction of borrowing attracts the provisions of section 36(1)(iii). [Para 13]
The Assessing Officer was not justified in making disallowance of interest in respect of borrowings utilized for purchase of machinery. [Para 14]
Challapalli Sugars Ltd. v. CIT [1975] 98 ITR 167 (SC) distinguished.
Decision of Gujarat High Court in Dy. CIT v. Core Health Care Ltd. [2001] 251 ITR 61 affirmed.
Judicial analysis
The decision of the Bombay High Court in Calico Dyeing & Printing Works v. CIT [1958] 34 ITR 265 and the judgment of the Supreme Court in India Cements Ltd. v. CIT [1966] 60 ITR 52 have been given with reference to the borrowings made for the purposes of a running business, while the decision of the Supreme Court in Challapalli Sugars Ltd. v. CIT [1975] 98 ITR 167 was given with reference to the borrowings which could not be treated as made for the purposes of business as no business had commenced in that case. Therefore, there is no inconsistency between the above decisions. [Para 13]
The following questions also arose for consideration :
(a) Whether advertisement expenses incurred by the assessee to create a brand image with an enduring benefit are allowable as revenue expenditure;
(b) Whether the Tribunal had erred in granting deduction under section 35D regarding short-term loan, in view of Explanation to section 35D(3) which refers only to long-term borrowings;
(c) Whether the Tribunal had erred in directing deduction under sections 80HH and 80-I on the miscellaneous income of Rs. 26,64,113, being income on sale of empty containers?
It was held that these questions are substantial questions of law, which had to be decided by the High Court. Therefore, all appeals relating to these questions were remanded back to the High Court for adjudication.