The judgment of the court was delivered by
M. S. Sanklecha, J.:-This Reference under Section 256(1) of the Income Tax Act, 1961 (the Act) by the Income Tax Appellate Tribunal (the Tribunal), seeks our opinion on the following two substantial questions of law:
(A) Whether on the facts and circumstances of the case and in law, the Tribunal was right in holding that the expenditure incurred by the assessee company in connection with the issue of share capital with a dominant objective to dilute its foreign shareholding under Government directive to enable it to carry on business in India was in the nature of capital expenditure?
(b) Whether on the facts and circumstances of the case and in law, the Tribunal was right in holding that interest received by the assessee company on deposit of share application money cannot be adjusted against the expenditure incurred in connection with the issue of such shares?
2 The Assessment Year relates to A. Y. 1978-79.
3 Briefly, the facts leading to this Reference are as under:
(a) The Applicant-Company had embarked on major expansion/ diversification programme for which it had obtained necessary industrial licence for manufacture of Sodium Tri Poly Phosphate (STPP). However, the industrial licence was conditional upon the Applicant-Company diluting foreign equity shareholding in it.
The condition in the industrial licence reads as under:”
The company should issue fresh shares to the Indian public to the exclusion of the foreign shareholders, to the extent of which will, after the proposed issue of bonus shares in the proportion of one new share to every six shares reduce the shareholding of the nonresident shareholders from the present figure of 85% at the most to 70% during the course of implementation of this project only which is for the manufacture of STPP by 31.3.1977. This condition will not operate as a precedent for any other future projects of the company.” Consequent to the above, the Applicant issued shares to the Indian Public. Thus, reducing the percentage of foreign share holding in it.
(b) Applicant-Company had for the purpose of issuing shares to Indian Public incurred an expenditure of Rs. 33.74 lakhs. In the assessment proceedings, the Applicant claimed that the expenses of Rs. 33.74 lakhs on account of issue of additional shares to the Indian public were in the revenue field and sought deduction of the same while computing its income chargeable to tax. However, the Assessing Officer by an order dated 27th February, 1981 did not accept the Applicant's contention, holding that any expenditure for issue of additional share capital, would be in the capital field and thus not allowable for deduction as a revenue expenditure.
(c) Being aggrieved, the Applicant filed an appeal to the Commissioner of Income Tax (Appeals) [CIT(A)]. Before the CIT(A), the Applicant urged that the entire expenses of Rs. 33.74 lakhs should be allowed as it is an expense incurred with the object of carrying on its business to increase its profitability, in view of conditional licence granted to it. Alternatively, it was submitted that in any event, a sum of Rs. 4.88 lakhs being the interest earned on the amounts received on issue of shares and deposited in the bank, subject to the allotment of shares, should be excluded while computing the total income. The CIT(A) by his order dated 20th April, 1983, allowed the Appeal of the Applicant by inter alia holding that the issue of shares for diluting the foreign share holding was issued as per the Government of India's directions and failure to do so would have resulted in stopping its expansion / diversification programme affecting its business. Thus, the expenses incurred on issue of shares to Indian public have to be allowed as a deduction while computing the total income. In the above view, the alternative submission urged for excluding the interest earned on the amounts received on allotment of shares, was not considered.
(d) Being aggrieved, the Revenue carried the issue in appeal to the Tribunal. The Applicant-Assessee filed its crosso-bjection before the Tribunal on the issue of interest earned on the share application money till allotment of shares not to be included in computing its income. The Tribunal by an order dated 30th March, 1999 allowed the Revenue's Appeal by holding that raising additional capital, being in the capital field, cannot be allowed as a revenue expenditure. It placed reliance upon the decision of the Kerala High Court in Commissioner of Income Tax v/s. Common Wealth Trust Ltd. 167 ITR 365 wherein it is held that expenditure incurred for changing the capital structure of the company was capital in nature and not revenue. So far as the alternative contention raised by the Applicant in its crossobjection is concerned, the Tribunal held that the interest earned on share application money, has to be taxed as income from other sources. Accordingly, the cross-objection filed by the Applicant-Assessee, was rejected.
4 On the aforesaid facts, the Tribunal has posed the two aforesaid questions for our opinion / consideration:
5 Regarding Question (A):
(i) Mr. Pardiwalla, learned Senior Counsel appearing for the Applicant urges that the entire expenditure of Rs. 33.74 lakhs has to be allowed as revenue expenditure under Section 37 of the Act to compute its income. In support, he submits that the test to determine whether expenses incurred on issue of shares is capital or revenue in nature, would be to ascertain the purpose / object for issue of shares. If the purpose and object for issuing shares, was to enable the Applicant-Assessee to carry on its business by increasing its profitability then it would be revenue in nature. In the present facts, the licence to enhance/ diversify its manufacturing activity, was issued on the condition of diluting the foreign share capital. This could only be achieved by issuing shares to Indian public. Thus, the expenses incurred for the issue of shares to Indian public is to be allowed as revenue expenditure. It is further submitted that although, apparently, the issue seems to be covered against the Applicant-Assessee by the decision of the Apex Court in Commissioner of Income Tax v/s Kodak India Ltd., 253 ITR 445, yet, on its closer scrutiny and when read along with the other decisions, it will support the Applicant's submission, viz: where the main object is to improve the profitability of the business and increase in capital is incidental, as in this case, the expenditure incurred is to be allowed as revenue expenditure.
(ii) We have considered the submissions made on behalf of the Applicant-Assessee.
We find that the Apex Court in Kodak India Ltd. (supra), has held that expenses incurred in connection with issue of public shares to Indian public even when the issue of shares was done to comply with the directions of the Reserve Bank of India (RBI), would be an expenditure incurred in the capital field.
The facts before the Apex Court in Kodak India Ltd., (supra) were that Kodak had to increase its share capital amongst the Indian public as it had been directed by RBI to reduce the foreign shareholding, if it wanted to continue to do business in India. On the aforesaid facts, the Court held that the object of the Assessee therein was to increase share capital and at whose instance, it was done, was not material. In the present facts also, the issue of fresh shares, was to comply with the condition imposed by Government of India for obtaining a manufacturing licence. This licence would enable it to carry on business, and yet it would be in the capital field just as in the case of Kodak (I) Ltd. (supra).
Thus, this issue is no longer resintegra before us and stands concluded against the Applicant-Assessee.
(iiii) However, the Applicant-Assessee urges that the decision of the Apex Court in Kodak India Ltd., (supra) would not apply to the present facts as it relied upon its earlier decision in Punjab State Development Corporation (supra). It is urged by the Applicant-Assessee that if the principle laid down in Punjab State Development Corporation (supra), is applied to the present facts, then the expenditure incurred on account of issue of shares would be a revenue expenditure. The Apex Court in Punjab State Development Corporation (supra) was concerned with the issue whether the filing fees paid to the Registrar of Company for enhancement of capital by issue of shares is to be considered as a capital or revenue expenditure. The Court held that any expenditure directly related to expansion of the capital base of the company would be a capital expenditure although incidental benefit may be for running of its business and making of profit.
Thus, in the aforesaid facts, the filing fee was held to be on capital account. Taking a cue from the words 'directly related' and 'incidental benefit' as used by the Apex Court, Mr. Pardiwalla, urges that in this case, the issue of share capital was primarily for doing business and increasing its profits. The change in capital structure was incidental.
(iv) Thus, the Apex Court in Kodak India Ltd., (supra) on an identical fact situation applied the ratio of the Punjab State Development Corporation (supra) to conclude that it would apply to cover expenditure incurred for issue shares even if done to comply with the RBI directions for the purpose of carrying on business. Thus, the decision of the Apex Court in Kodak India Ltd. (supra) would apply to the facts of the present caseand no fault can be found in view of the Tribunal.
(v) Mr. Pardiwalla, thereafter, relied upon certain observations of the Apex Court in Brooke-bond (India) Ltd. v/s. CIT 225 ITR 798.
Before adverting to the observations relied upon by the Applicant, we must note that the issue before the Apex Court was whether expenditure in connection with issue of shares related to expanding its capital base, should be considered to be revenue or capital in nature. The Court held that expenditure incurred for change in capital base, is capital in nature. It held that the issue is covered by its decision in Punjab State Development Corporation (supra). However, thereafter in response to submissions of Counsel that increase in capital base by issue of additional shares was done only in order to meet the working fund requirements, it observed that the statement of case does not so indicate. Mr. Pardiwalla, suggested that this implies that it would be another matter if the statement of case had indicated so. To extend the submission of a Counsel which the Court did not deal with to a status of a ratio of a decision is not permissible. These observations of a Court being relied upon by Mr. Pardiwalla, will not even qualify as obiter dicta. In fact, if anything, the ratio of the Apex Court in Brooke-bond India (supra) that any expenditure incurred for issue of additional issue of shares which relates to expansion of capital base would be on capital account, would cover the question raised herein in favour of the Respondent-Revenue.
(vi) The Applicant-Assesses then placed reliance upon the decision of this Court in Commissioner of Income Tax Vs. Chemosyn Ltd. 371 ITR 427 (wherein one of us, M.S. Sanklecha, J. was a member) to contend that this Court has allowed amounts paid for reduction of capital base of the company as revenue expenditure. Therefore, it is submitted that in this case also, the expenditure incurred on issue of shares be allowed. The order in Chemosyn Ltd. (supra) was passed at the admission stage when this Court refused to entertain the Revenue's Appeal from the order of the Tribunal on the ground that no substantial question of law arises. The decision was rendered on the following facts:
(a) There was a dispute between brothers, who together owned the Assessee-Company.
As a consequence of the differences between the two groups, the dispute reached to the Company Law Board. The two warring groups of shareholders arrived at a settlement and as per the direction of the Company Law Board, the Assessee-Company was directed to buy 34% of shareholding of one of the warring group and cancel the same. The Respondent-Assessee had claimed before the Assessing Officer, the amount of Rs. 6.81 Crores (being difference between the consideration paid and the face value of the shares acquired for cancellation) as revenue expenditure. This was on the basis that the dispute between the shareholders had adversely affected the business of the company and the payment was made for the purposes of the effective carrying on the business of the company.
(b) On aforesaid facts, the Tribunal upheld the contention of the Assessee-Company by placing reliance upon its own decision in the case of H.J. Industries Ltd. Vs. Dy. Commissioner of Income Tax, 88 TTJ 1089, wherein on identical fact situation, the expenditure incurred by the Assessee to purchase its own shares from one of the warring groups of shareholders consequent to a direction of the Company Law Board was allowed as a revenue expenditure. An appeal from the order of the Tribunal was also dismissed by this Court.
(c) Further, the Tribunal recorded a finding of fact that the dispute between the brothers had affected the business of the company and its sales had come down from Rs. 25 Crores per annum in the pre-dispute period to about Rs. 9 to 14 Crores during the litigation period. Again, post settlement, the sales had increased to nearly Rs. 18 Crores per annum. On the aforesaid facts, the Tribunal held that the amount paid in excess of the face value of shares was an expenditure incurred only for the smooth running of the business and thus allowable as a revenue expenditure.
(d) It was not disputed by the Revenue that the facts and circumstances in the case of H.J. Industries Ltd. (supra) were identical to the case under consideration and the appeal filed by the Revenue in H.J. Industries Ltd. (supra)was dismissed by this Court. In the above facts, the change / reduction in the capital base by purchase of shares at its face value was never claimed as revenue expenses. What was claimed as revenue expense was the amount paid by the Assessee to a warring shareholder, to let it carry on its business. The warring shareholder, on facts was found to be an impediment in the Assessee doing business and therefore, expenditure incurred to get rid of the obstacle was allowable as revenue expenditure. Thus, the above decision was not concerned with expenditure incurred on reduction of capital of the Assessee therein. It allowed deduction on account of payment made to a person/ shareholder who was an obstacle / impediment in the doing of the business. Thus, the above decision is rendered on completely different facts and will not apply to the present facts. Moreover, the decision of the Apex Court in Kodak India Ltd. (supra) was not noticed by the Court. Therefore, in our view, reliance upon Chemosyn Ltd. (supra) is inappropriate.
(vii) A direct decision of the Apex Court in Kodak India Ltd. (supra) which was rendered on identical fact situation as arising in this case, would cover the controversy herein.
(viii) In the above view, question (A) is answered in the affirmative i.e. in favour of the Revenue and against the Applicant-Assessee.
6. Regarding Question (B) :
(i) Mr. Pardiwalla, learned Senior Counsel appearing in support of the appeal, stated that the interest was earned on receipt of share application money deposited in a specified account as required under Section 73(3) of the Companies Act, 1956 till such time as the allotment of shares is made. Therefore, this earning of interest is a part of an integrated transaction, namely, issue and allotment of shares. Thus, it is submitted that any income earned on the amount of share application money has to necessarily be adjusted against the share issue expenses and not separately taxed. It is submitted that the Tribunal did not consider the statutory obligation of the Assessee to keep the share application amounts received from the prospective shareholders till its allotment in a separate account under Section 73(3) Companies Act, 1953. It was not a case of earning of interest on call deposits with the bank made out of the share application money.
(ii) We find that this issue has been held in favour of the Applicant-Assessee by the decision of Gujarat High Court in Commissioner of Income Tax v/s. Shree Rama Multi Tech Ltd. 214 Taxman 650, wherein an identical issue as arising herein was raised in the following manner :"
Whether the Tribunal erred in setting aside the issue set off of interest income from share application money against public issue expenses ?”
(a) The Gujarat High Court held that the Assessee was statutorily required to keep the share application money in a separate account, till the allotment of shares is completed. Therefore, interest earned on such separately kept amount was adjustable towards the expenditure incurred for raising share capital. This is so as the earning of interest was inextricably linked with the requirement to raise share capital. In support, reliance was placed upon the decisions of the Apex Court in Commissioner of Income Tax v/s. Bokaro Steel Ltd. 236 ITR 315 and Commissioner of Income Tax v/s. Karnal Cooperative Sugar Mills Ltd. 243 ITR 2. We are in respectful agreement with this decision of the Gujarat High Court.
(b) The reliance placed by Gujarat High Court on Bokaro Steel Ltd. (supra) and Karnal Cooperative Sugar Mills Ltd. (supra) was apposite. In Bokaro Steel Ltd. (supra), the Apex Court held that during the construction of the steel plant, M/s. Bokaro had charged rent, hire charges and interest on advances from its contractors. The Revenue sought to tax the above as revenue receipts. The Apex Court held the above income went to reduce the cost of construction and were capital receipts. In Karnal Cooperative Sugar Mills Ltd. (supra) the amount had been deposited in a bank to open a letter of credit for purchase of a machinery required for setting up a plant. The deposit so made to open the letter of credit earned interest. This interest is inextricably linked with the purchase of the machinery and such interest income has necessarily to be taken into account to reduce the cost of acquisition of asset, being income incidental to the purchase of the asset. In this case also, the share application money has been kept in the separate account as statutorily required till allotment of shares and any interest earned on the deposit of share application money is directly linked with the issue and allotment of fresh shares. Consequently, it cannot be brought to tax as income but has to be taken into account to reduce the expenditure incurred on issue of shares.
(iii) Mr. Pardiwalla, learned Senior Counsel for the Applicant Assessee, very fairly brought to our notice a decision of a single Judge of the Karnataka High Court in Southern Herbals Ltd. v/s. Settlement Commission and Anr. 261 ITR 681. In the above case, the Court, while dismissing a petition under Article 226 of the Constitution of India, upheld the order of the Settlement Commission that interest earned by an assessee on investment of share investor's money is to be classified under 'income from other sources' and not as 'business income'. It applied the principle laid down in the decision of the Apex Court in Tuticorin Alkali Chemicals and Fertilizers Ltd. v/s. Commissioner of Income Tax, 227 ITR 172, where interest was earned on loans taken before the commencement of business and such interest was held to be chargeable to tax. However, the Apex Court in Karnal Cooperative Sugar Mills Ltd. (supra) on identical facts, as arising herein, had occasion to consider both the decisions of the Apex Court in Bokaro Steel Ltd., (supra) and Tuticorin (supra). On consideration on the fact situation, it held that the ratio of the Apex Court in Tuticorin (supra) would not apply to the present facts but the Apex Court decision in Bokaro Steel Ltd. (supra) would apply. In any case, the Karnataka High Court's decision was rendered in the context of Article 226 of the Constitution of India and completely different considerations apply in writ petitions as opposed to Appeals/References.
(iv) In the above view, question (B) as raised for our opinion is answered in the negative, i.e. in favour of the Applicant-Assessee and against the Respondent Revenue.
8 The two substantial questions of law as referred to us by the Tribunal, are answered as under:
(i) Question (A) in the affirmative i.e. in favour of the Revenue and against the Applicant-Assessee; and
(ii) Question (B) in the negative i.e. in favour of the Applicant-Assessee and against the Revenue.
9 Income Tax Reference disposed of in the above terms. No order as to costs.