Facts of the Case

The assessee, M/s Escorts Tractors Ltd., incurred expenditure of ₹38,33,681 in connection with the rights issue of non-convertible debentures during the Assessment Year 1995-96. The assessee claimed the entire expenditure as a revenue deduction on the ground that the expenditure was incurred in the ordinary course of business for raising funds and did not result in the creation of any capital asset or enduring advantage.

The Assessing Officer held that the expenditure was covered by Section 35D(2)(c)(iv) of the Income-tax Act, 1961 and, therefore, was required to be amortized over a period of ten years. Consequently, the entire deduction was not allowed in the relevant assessment year.

The Commissioner of Income Tax (Appeals) upheld the view of the Assessing Officer. However, the Income Tax Appellate Tribunal reversed the findings and allowed the claim of the assessee. Aggrieved by the Tribunal’s decision, the Revenue preferred an appeal before the Delhi High Court.

Issues Involved

  1. Whether expenditure incurred on the issue of non-convertible debentures is allowable as a revenue expenditure in the year in which it is incurred.
  2. Whether such expenditure is required to be amortized under Section 35D of the Income-tax Act, 1961.
  3. Whether raising funds through non-convertible debentures results in the acquisition of an asset or an enduring advantage of a capital nature.

Petitioner’s Arguments (Revenue)

  • The Revenue contended that the expenditure incurred on the issue of non-convertible debentures was specifically covered under Section 35D(2)(c)(iv) of the Income-tax Act, 1961.
  • It was argued that the expenditure should be amortized over a period of ten years and could not be allowed as a full deduction in the year of incurrence.
  • The Revenue relied upon the statutory provisions of Section 35D and supported the orders passed by the Assessing Officer and the Commissioner of Income Tax (Appeals).

Respondent’s Arguments (Assessee)

  • The assessee argued that the expenditure was incurred for raising borrowed funds through non-convertible debentures and was incidental to the carrying on of its business.
  • It was contended that the issue of non-convertible debentures did not result in the creation of any capital asset or confer any enduring benefit.
  • Reliance was placed upon the decision of the Supreme Court in India Cements Ltd. vs Commissioner of Income Tax (1966) 60 ITR 52, wherein it was held that expenditure incurred for obtaining a loan is revenue in nature.
  • The assessee also relied upon CBDT Circular No. 56 dated 19 March 1971, which clarified that Section 35D was not intended to supersede other provisions allowing deduction of expenditure otherwise admissible under the Act.

Court Order / Findings

The Delhi High Court upheld the decision of the Income Tax Appellate Tribunal and dismissed the Revenue’s appeal.

The Court observed that:

  • The act of borrowing money is incidental to carrying on business.
  • Funds raised through non-convertible debentures constitute borrowed capital and do not create any asset or enduring advantage in favour of the assessee.
  • The expenditure incurred for raising such funds is revenue expenditure.
  • The Supreme Court’s decision in India Cements Ltd. vs Commissioner of Income Tax (1966) 60 ITR 52 squarely governed the issue.
  • CBDT Circular No. 56 clarified that Section 35D does not override other provisions under which expenditure is otherwise allowable as a deduction.
  • Reliance was also placed upon the earlier Delhi High Court decision in Commissioner of Income Tax vs Thirani Chemicals Ltd. (ITA No. 850/2005) involving a similar issue.

The Court concluded that no substantial question of law arose for consideration and dismissed the appeal filed by the Revenue.

Important Clarification

  • Expenditure incurred on the issue of non-convertible debentures for raising loan funds is generally treated as revenue expenditure where it does not result in the acquisition of a capital asset or enduring benefit.
  • Section 35D is not intended to supersede other provisions of the Income-tax Act that independently permit deduction of expenditure.
  • The principle laid down by the Supreme Court in India Cements Ltd. vs Commissioner of Income Tax (1966) 60 ITR 52 continues to govern the deductibility of borrowing-related expenses.
  • Expenses incurred for obtaining borrowed capital are distinct from expenses incurred for raising share capital, as borrowed funds do not enlarge the capital base of the company.

Key Takeaway

Expenses incurred for the issue of non-convertible debentures to raise borrowed funds are allowable as revenue expenditure when no capital asset or enduring advantage is created. Section 35D cannot be invoked to deny an otherwise allowable deduction under the Act where the expenditure falls within the principles laid down in India Cements Ltd.

Sections Involved

  • Section 35D of the Income-tax Act, 1961
  • Section 37(1) of the Income-tax Act, 1961

Link to download the order - https://delhihighcourt.nic.in/app/case_number_pdf/2006:DHC:24567-DB/MBL12092006ITA5982005_162954.pdf 

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