THE PRINCIPAL COMMISSIONER OF INCOME TAX 2 vs. M/S GUJARAT STATE FINANCIAL CORPORATION

C/TAXAP/726/2019 ORDER IN THE HIGH COURT OF GUJARAT AT AHMEDABAD R/TAX APPEAL NO. 726 of 2019 ========================================================== THE PRINCIPAL COMMISSIONER OF INCOME TAX 2 Versus M/S GUJARAT STATE FINANCIAL CORPORATION ========================================================== Appearance: MRS MAUNA M BHATT(174) for the Appellant(s) No. 1 for the Opponent(s) No. 1 ========================================================== CORAM: HONOURABLE MR.JUSTICE J.B.PARDIWALA and HONOURABLE MR. JUSTICE BHARGAV D. KARIA

Date : 13/01/2020

ORAL ORDER

(PER : HONOURABLE MR. JUSTICE BHARGAV D. KARIA) 1. This Tax Appeal is filed under Section 260A of the Income Act, 1961 (for short the “Act­1961”) at the instance   of   Revenue   and     is   directed   against   the order   dated   04.04.2019   passed   by   the   Income   Tax Appellate   Tribunal,   Ahmedabad   Bench   'A',   Ahmedabad (for short “the Tribunal”)in the ITA No.1547/Ahd/2014 for the A.Y. 2009­10. 2. The Revenue has proposed following question of law as substantial question of law for consideration in its Memorandum of Appeal. “2. Whether the Appellate Tribunal has erred in law and on facts by deleting the addition made by   the   Assessing   Officer   and   confirmed   by   the CIT(A)

considering

the

amount

of Rs.8,07,35,116/­   as   capital   receipt   without properly appreciating the facts of the case and Page 1 of 15

C/TAXAP/726/2019 ORDER the material available on record?” 3. The   facts   giving   rise   to   this   appeal   are   as under:­ 3.1   The   respondent­assessee   filed   its   return   of income   declaring   loss   of   Rs.(­)152,85,63,518/­   for A.Y.2009­10. The Assessment Officer passed assessment order   under   Section   143(3)   of   the   Act   determining assessed loss at Rs.(­)91,13,70,035/­. 3.2 The   Assessing   officer   made   an     addition   of Rs.8,07,35,116/­     amongst   others,   on   account   of cessation of liability made U/s. 41(1) of the Act, which   was   part   of   the   total   amount   of Rs.182,87,27,185/­ written off pursuant to one time settlement   by   the   assessee   with   IDBI   Ltd.   and consortium   of   other   banks.   On   verification   of   the details,   it   was   found   that   an   amount   of Rs.8,07,35,116/­ pertaining to PSB account of Indian Overseas Bank was credited to capital reserve and was not offered to tax on the ground that such waiver was towards   outstanding   principal   loan   amount   and therefore,   it   was   capital   receipt.   According   to assessing   officer   ,the   said   amount   could   not   have been  credited to the capital reserve of the company and therefore, it was liable to be added to income under section 41(1) of the Act,1961. 3.3 The   assessee   being   dissatisfied,   preferred   an appeal before the CIT (Appeals) challenging the said disallowance under section  41(1) of the Act,1961 . Page 2 of 15

C/TAXAP/726/2019 ORDER The CIT (Appeals) relying upon the decision of the Supreme Court in the case of T.V.SUNDARAM Iyengar and Sons   Ltd.   [222   ITR   344]  and   the   decision   of   the Bombay   High   Court   in   the   case   of  Solid   Container Limited [308 ITR 417] confirmed the addition made by the Assessing Officer pertaining to waiver of loan of Rs.8,07,35,116/­. 3.4   The   assessee,   therefore,   preferred   an   appeal before the Tribunal. The Tribunal, relying upon the decision   of   the   Madaras   High   Court   in   case   of Iskraemeco Regent Ltd. vs. CIT [ (2011) 331 ITR 0317] and the decision of the Bombay High Court in the case of Mahindra and Mahindra Ltd. vs. CIT [(2003) 182 CTR Born 34, allowed the appeal filed by the assessee. 4. Mrs. Mauna Bhatt, learned Standing Counsel for the appellant contended that the Tribunal ought to have taken into consideration the interest component embedded in the aforesaid sum which was written off by the concerned bank and accordingly, Section 41(1) of the Act would be applicable. 5. Learned   Standing   Counsel   for   the   appellant relied upon the findings of the CIT(A), which reads as under:­ “4.3 I have carefully considered the facts of the case,   the   assessment   order   and   the   written submission of the appellant. During the year, the appellant got a waiver of principal amount of loan amounting   to   Rs.7,87,35,116/­   by   IDBI   under   one time   settlement   scheme.   Another   waiver   of   Rs.20 lakh was also obtained  by the appellant  towards settlement of dues by not paying to the investors of “Priority Sector Bonds” issued by the appellant Page 3 of 15

C/TAXAP/726/2019 ORDER to   Indian   Overseas   Bank.   The   AO   considered   the waiver   as   revenue   in   nature.   He   held   that   the assessee   had   treated   this   amount   as   trading liability   and   accordingly,   added   the   same   by applying the provisions of Section 41(1). It was held   by   the   AO   that   since   the   banks/financial institutions  have written off the amount in the books of accounts and claimed the same as bed debt in   their   final   accounts   the   amount   should   be treated as income of the appellant. The appellant on the other hand has submitted a detailed   written   argument   against   the   addition made by the AO. It has been claimed that since it was not a trading liability for which an allowance or deduction was made in the assessment year or earlier year no addition can be made under Section 41(1) for the same. Company's liability on account of principal amount of loan borrowed by it was not a trading liability for which the some deduction was   claimed   in   earlier   year   and   therefore   its remission could not be deemed as income under the above provision. It has further  been claimed  by the   appellant   that   even   the   interest   which   was claimed   as   deduction   in   the   statement   of   total income in earlier years was offered for taxation under Section 43B of the Act. Since the amount of interest was disallowed the remission of interest also cannot be treated as income as it was never claimed as one. To examine whether the loan waiver can be treated as income  by applying  the provisions of Section 41(1) of the Act, it would be useful to examine the provisions of the Section:­ “4.1 (1) Where an allowance or deduction has been made in the assessment for any year in respect of loss, expenditure or trading liability incurred by the   assessee   (herein   after   referred   to   as   the first   mentioned   person)   and   subsequently   during any previous year. (a)   the   first­mentioned   person   has   obtained, whether in cash or in any other manner whatsoever, any amount in respect of such loss or expenditure or   some   benefit   in   respect   of   such   trading liability   by   way   of   remission   or   cessation thereof, the amount obtained by such person or the value of benefit accruing to him shall be deemed Page 4 of 15

C/TAXAP/726/2019 ORDER to be profits and gains of business or profession and   accordingly   chargeable   to   income­tax   as   the income of that previous year, whether the business or profession in respect of which the allowance or deduction has been made is in existence in that year or not; or (b) the   successor   in   business has   obtained,   whether   in   case   or   in   any   other manner whatsoever, any amount in respect of which loss   or   expenditure   was   incurred   by   the   first­ mentioned person or some benefit in respect of the trading liability referred to in clause (a) by way of   remission   or   cessation   thereof,   the   amount obtained by the successor in business or the value of benefit accruing to the successor in business shall  be deemed  to be profits  and  gains  of the business or profession, and accordingly chargeable to income­tax as the income of that previous year. Explanation   1.   ­   For   the   purposes   of   this   sub­ section,   the   expression   “loss   or   expenditure   or some   benefit   in   respect   of   any   such   trading liability by way of remission or cessation thereof shall include  the remission or cessation of any liability   by   a   unilateral   act   by   the   first mentioned person under clause (a) or the successor in business under clause (b) of that sub­section by   way   of   writing   off   such   liability   in   his accounts. Explanation   2.­   For   the   purposes   of   this   sub­ section, “successor in business” means, (i)   Where   there   has   been   an   amalgamation   of   a company   with   another   company,   the   amalgamated company; (ii) where   the   first   mentioned person is succeeded by any other person in that business or profession the other person; (iii) Where  a firm  carrying  on  a business   or   profession   is   succeeded   by   another firm, the other fir;” According to the above provisions is the starting point for the section would be that the allowance of   deduction   should   have   been   made   in   the assessment   for   any   year   in   respect   of   loss, Page 5 of 15

C/TAXAP/726/2019 ORDER expenditure or trading liability incurred by the assesses and thereafter, “of subsequently, during any year it obtains whether in cash or any other manner   any   amount   in   respect   of   such   loss   of expenditure   or some benefit in respect of such trading liability by way of remission or cessation thereof;   then   the   amount   would   be   treated   or deemed to be profits and gains of the business or profession. In the present case any deduction has not   been   claimed   on   account   of   the   principal amount  of loan  as well  as the  interest  on such loan in earlier year. Therefore, after considering all the facts and the legal position I'm inclined to agree with the submission of the appellant's in so   far   as   the   claim   of   the   appellant   that   the addition   cannot   be   made   under   Section   41(1)   as there is no remission  or cessation  of liability for which an allowance of deduction had been made in the assessment for earlier years. The claim of the appellant appears to be factually correct and therefore, the action of the AO in treating it as ceased   liability   under   section   41(1)   was unjustified. The same can therefore be not upheld. However, it is noted that the loan taken by the appellant has been waived by the creditor and some benefit has accrued to the appellant. In order to determine what is the character of waiver of the loan   in   the   hands   of   the   appellant   further examination is required. In the income tax act all receipts   of   revenue   nature,   unless   specifically exempted   are   chargeable   to   tax.   Loan   taken   is normally   not   a   kind   of   receipt   which   will   be treated   as   income.   In   this   context   it   would   be useful   to   reproduce   the   provisions   in   the   act which   governs   the   definition   of   income.   The section 2(24) and 28(iv) defined the following “2(24) “Income” includes ­ Profits and gains; (vd)   the   value   of   any   benefit   or   prerequisite taxable under clause (iv) of section 28; 28 (iv) the value of any benefit or perquisite, whether   convertible   into   money   or   not,   arising from business or the exercise of a profession.” Therefore, the benefit received by the appellant Page 6 of 15

C/TAXAP/726/2019 ORDER by   waiver   of   loan   shall   be   the   income   of   the appellant   if   it   is   covered   in   the   above provisions. For this purpose, it would be relevant to examine the facts of the case once again. It is in undisputed fact that the appellant is a state­level   development   financial   institution which   is   providing   comprehensive   array   of financial   services   to   entrepreneurs   who   set   up industrial   units   in   small   scale   sectors   of   the State of Gujarat. The appellant is providing loan and finance for various industrial sectors and is accordingly charging interest on the loan, which is its principal source of income. The capital of the company as well as the loans taken by it from from various financial institutions such as banks etc are used by it in advancing the loans to its customer. The appellant is paying interest on the loans   taken   by   it   which   is   claimed   by   it   as expenditure   in   the   profit   and   loss   account. Therefore,   the   company   is   borrowing   money   on interest  and advancing money on interest in the regular course of its business. It   is   seen   from   the   above   discussion   that   the purpose   for   which   the   loan   was   taken   was   to finance the day­to­day business of the appellant assesses   which   was   advancing   money   on   interest. The borrowing of money was integral part of the commercial transactions of the company. The law in this respect has been laid down down by Hon'ble Supreme Court in the case of T.V.Sundaram Iyengar & Sons. 136 ITR 444. In the said case, the assessee in the course of trading transactions had collected   deposits   from   customers.   Since   the customers did not claim the amounts standing  to their   credit,   the   assessee   had   transferred   the unclaimed deposits to the profit and loss account. The view of the Assessing Officer was that since the unclaimed deposits had arisen as a result of trading   transactions,   therefore,   the   same represented income of the assessee. The deposits were of capital in nature at the point of time of receipts   of   the   assessee   could   there   character change   by   afflux   of   time.   The   Supreme   Court answered this question in the affirmative holding that   under   certain   circumstances,   the   deposits even   if   were   shown   as   capital   receipts,   had attained   the   character   of   trading   receipts.   The Page 7 of 15

C/TAXAP/726/2019 ORDER Supreme   Court   relying   upon   its   judgment   in   the case of Punjab Distilling Industries Ltd. Vs. CIT [1959] 35 ITR 519 did not approve the finding of the Tribunal that nature of the deposits received from the customers was capital. The ratio of the decision of T.V.Sundaram Iyengar & Sons Ltd's case (supra) is that the proposition that   the   quality   and   nature   of   a   receipt   for income   tax   purposes   is   fixed   once   and   for   all, when the receipt is received and that subsequent operation can change its nature, is not absolute and that in given cases by reason of subsequent events,   the   amounts   which   initially   were   not received  as trading  receipts may be regarded  as business income. It is therefore clear from the above observations and findings given by the Hon'ble  Supreme Court that the purpose for which the loan has been taken would   be   a   determinative   factor   in   deciding whether it would be a capital receipt or business receipt. If the loan was taken for acquiring the capital asset, waiver thereof would not amount to any income exigible to tax. In the other hand, if this loan was for trading purpose and was treated as such from the very beginning in the books of account   the   waiver   thereof   may   result   in   the income.  Accordingly  applying  these principles on the   facts   of   present   case   which   show   that   the appellant   has   borrowed   money   from   the   financial institutions  for giving  the same on interest  to others   during   the   course   of   its   business,   the benefit obtained by the appellant by way of waiver of   loan   should   be   taxable   in   the   hands   of   the appellant under the provisions of section 2 (24) (vd) read with Section 28(iv) of the Act. It is held accordingly. Reliance is also placed on the judgment   of   Hon'ble   High   Court   of   Delhi   in   the case of Logitronics Private Limited 197 Taxman 394 and Bombay High Court's decision in the case of Solid Containers Limited 308 ITR 417. The appellant has also placed reliance on certain judgments   which   are   mentioned   in   the   written submission   reproduced   above.   I   have   carefully perused the judgment mentioned. It is noted that none of the judgment is applicable in the case as the judgment of the Hon'ble Supreme Court of India in the case of T.V.Sundaram Iyengar and Sons Ltd. Page 8 of 15

C/TAXAP/726/2019 ORDER 222 ITR 344 is directly on the issue. In the cases that have been relied by the appellant the facts were   different   and   the   waiver   of   the   loan   was related  to capital asset which is clearly borne out   by   the   reading   of   those   judgments.   The judgments relied by the appellant are therefore, respectfully distinguished. The ground of appeal is accordingly dismissed.” 6. It was, therefore, submitted that in view of the decision   of   the   Supreme   Court   in   the   case   of T.V.Sundaram Iyengar and Sons Ltd [222 ITR 344], the CIT(A)   has   rightly   dismissed   the   appeal   of   the respondent­assessee confirming the addition made by the Assessing Officer. 7. The Tribunal, however, relying upon the decision of   the   Supreme   Court   in   the   case   of   Mahindra   and Mahindra   Ltd   (Supra),   allowed   the   appeal   of   the respondent­assessee by observing as under:­ “2.5  Heard the respective  parties,  perused  the relevant materials available on record. We have also   considered   the   judgment   passed   by   the Hon'ble   Madras   High   Court   in   the   matter   of Iskraemeco   Regent   Ltd.   (supra)   wherein   it   was held  by the  Hon'ble  Court  that waiver  of loan even though a receipt may be in connection with the   business,   every   such   receipt   is   not   a trading   receipt.   Amount   referable   to   the   loan obtained by the assessee towards the purchase of capital   asset   did   not   constitute   a   trading receipt.   Further,   Section   28   (iv)   speaks   of benefit or perquisite received in Kind. The same has   no   application   to   any   transaction   which involved   money.   It   was   further   observed   that loan received for the purpose acquiring capital assets   did   not   constitute   a   trading   liability and   hence,   Section   41(­1)   also   has   no application. Page 9 of 15

C/TAXAP/726/2019 ORDER 2.6 We have also considered the judgment passed in the matter of Mahindra and Mahindra Ltd. Vs. CIT reported in [2003] 182 CTR Born 34. 2.7 If the ratio of the judgment is applied to the   instant   case   then   we   can   safely   conclude that the waiver of principal amount of loan by IDBI to the tune of Rs.8,07,35,116/­ under one time   settlement   scheme   through   written   off   by the  concerned  bank does  not  constitute  trading receipt, which was never claimed by the assessee as   deduction   does   not   give   rise   to   profits chargeable to tax u/s. 41(1) of the Act and thus cannot   be   added   at   all   to   the   income   of   the assessee.   Addition   of   Rs.8,07,35,116/­   is   thus hereby deleted. Thus, this ground of appeal is allowed. ” 8.     We   are   in   agreement   with   the   findings   og   the Tribunal that waiver of principle amount of loan by IDBI   amounting   to   Rs.8,07,35,116/­   under   One   Time Settlement   Scheme   does   not   constitute   trading receipt,   as   such   amount   was   never   claimed   by   the assessee as deduction in past. Therefore, even though such amount is written off by the concerned bank, it does not give rise to the  profit chargeable to tax under Section 41(1) of the Act.

C/TAXAP/726/2019 ORDER his successor may exercise their “Right of Waiver” unilaterally   to   absolve   the   debtor   from   his liability to repay. After such exercise, the debtor is   deemed   to   be   absolved   from   the   liability   of repayment   of   loan   subject   to   the   conditions   of waiver.   The   waiver   may   be   a   partly   waiver   i.e., waiver   of   part   of   the   principal   or   interest repayable, or a complete waiver of both the loan as well as interest amounts. Hence, waiver of loan by the   creditor   results   in   the   debtor   having   extra cash in his hand. It is receipt in the hands of the debtor/assessee. The short but cogent issue in the instant case arises whether waiver of loan by the creditor is taxable as a perquisite under  Section 28 (iv) of the IT Act or taxable as a remission of liability under Section 41 (1) of the IT Act. 12) The   first   issue   is   the   applicability   of Section 28 (iv) of the IT Act in the present case. Before   moving   further,   we   deem   it   apposite   to reproduce the relevant provision herein below:­ “28. Profits and gains of business or profession.— The following income shall be chargeable to income­ tax under the head “Profits and gains of business profession”,­­ xxx (iv)   the   value   of   any   benefit   or   perquisite, whether convertible into money or not, arising from business or the exercise of a profession; x x x” 13) On a plain reading of Section 28 (iv) of the IT   Act,   prima   facie,   it   appears   that   for   the applicability   of   the   said   provision,   the   income which can be taxed shall arise from the business or profession. Also, in order to invoke the provision of Section 28 (iv) of the IT Act, the benefit which is received  has to be in some other  form rather than in the shape of money. In the present case, it is   a   matter   of   record   that   the   amount   of   Rs. 57,74,064/­ is having received as cash receipt due to the waiver of loan. Therefore, the very first condition of  Section 28  (iv) of the  IT Act  which says   any   benefit   or   perquisite   arising   from   the business   shall   be   in   the   form   of   benefit   or perquisite other than in the shape of money, is not satisfied in the present case. Hence, in our view, in no circumstances, it can be said that the amount of Rs 57,74,064/­ can be taxed under the provisions of Section 28 (iv) of the IT Act. Page 11 of 15

C/TAXAP/726/2019 ORDER 14)   Another   important   issue   which   arises   is   the applicability of the Section 41 (1) of the IT Act. The said provision is re­produced as under: “41. Profits chargeable to tax.­ (1) Where an allowance or deduction has been made in the assessment for any year in respect of loss, expenditure or trading liability incurred by the assessee (hereinafter referred to as the first­mentioned   person)   and   subsequently during any previous year,­ (a) the first­mentioned person has obtained, whether   in   cash   or   in   any   other   manner whatsoever, any amount in respect of such loss or expenditure or some benefit in respect of such trading liability by way of remission or cessation thereof, the amount obtained by such person or the value of benefit accruing to him shall  be   deemed   to  be  profits   and  gains  of business   or   profession   and   accordingly chargeable to income­tax as the income of that previous   year,   whether   the   business   or profession in respect of which the allowance or deduction has been made is in existence in that year or not; or x x x” 15)   On   a   perusal   of   the   said   provision,   it   is evident that it is a sine qua non that there should be   an   allowance   or   deduction   claimed   by   the assessee in any assessment for any year in respect of loss, expenditure or trading liability incurred by   the   assessee.   Then,   subsequently,   during   any previous year, if the creditor remits or waives any such liability, then the assessee is liable to pay tax under  Section 41  of the IT Act. The objective behind this Section is simple. It is made to ensure 12   that   the   assessee   does   not   get   away   with   a double benefit once by way of deduction and another by not being taxed on the benefit received by him in   the   later   year   with   reference   to   deduction allowed   earlier   in   case   of   remission   of   such liability.   It   is   undisputed   fact   that   the Respondent   had   been   paying   interest   at   6   %   per annum   to   the   KJC   as   per   the   contract   but   the assessee   never   claimed   deduction   for   payment   of interest under Section 36 (1) (iii) of the IT Act. In the case at hand, learned CIT (A) relied upon Section   41  (1)   of   the  IT   Act  and   held   that   the Page 12 of 15

C/TAXAP/726/2019 ORDER Respondent   had   received   amortization   benefit. Amortization is an accounting term that refers to the process of allocating the cost of an asset over a period of time, hence, it is nothing else than depreciation.   Depreciation   is   a   reduction   in   the value of an asset over time, in particular, to wear and tear. Therefore, the deduction claimed by the Respondent in previous assessment years was due to the   depreciation   of   the   machine   and   not   on   the interest paid by it. 16) Moreover, the purchase effected from the Kaiser Jeep Corporation is in respect of plant, machinery and tooling 13 equipments which are capital assets of the Respondent. It is important to note that the said purchase amount had not been debited to the trading account or to the profit or loss account in any   of   the   assessment   years.   Here,   we   deem   it proper to mention that there is difference between ‘trading liability’ and ‘other liability’.  Section 41  (1) of the  IT Act  particularly deals with the remission   of   trading   liability.   Whereas   in   the instant case, waiver of loan amounts to cessation of liability other than trading liability. Hence, we find no force in the argument of the Revenue that the case of the Respondent would fall under Section 41 (1) of the IT Act. 17) To sum up, we are not inclined to interfere with   the   judgment   and   order   passed   by   the   High court in view of the following reasons: (a)  Section   28(iv)  of   the   IT   Act   does   not apply on the present case since the receipts of Rs 57,74,064/­ are in the nature of cash or money. (b)  Section 41(1)  of the IT Act does not apply since   waiver   of   loan   does   not   amount   to cessation   of   trading   liability.   It   14   is   a matter of record that the Respondent has not claimed any deduction under Section 36 (1) (iii) of the IT Act qua the payment of interest in any previous year. “ 10.   In   view   of   the   above   position   of   law   and   the facts emerging from the record, the CIT(A) has agreed to   the   submissions   of   the   respondent­assessee   that addition cannot be made under Section 41(1) of the Page 13 of 15

C/TAXAP/726/2019 ORDER Act.   However,   CIT(A)   has   considered     that   the respondent was paying interest on the loan taken by it which was claimed by it as expenditure in profit and   loss   account,   and   therefore,   it   was   borrowing with interest which was waived. Therefore, the CIT(A) has applied the ratio of   T.V.Sundaram Iyengar and Sons Ltd (supra) to hold that the quality and nature of receipt for income­tax purposes is fixed once and for   all,   when   the   receipt   is   received   and   that subsequent operation can change its nature, is not absolute   and   that   in   given   cases   by   reason   of subsequent events, the amount which initially was not received   as   trading   receipts   may   be   regarded   as business income. It was considered by the CIT(A) that if   the   loan   was   for   the   trading   purpose   and   was treated as such from the very beginning in the books of   account,   the   waiver   thereof   may   result   in   the income. It was, therefore, held that the waiver of the loan should be taxable under the provisions of Section 2(24) read with Section 28(iv) of the Act. 11. However, aforesaid findings given by the CIT(A) are contrary to the facts of the case as the amount of Rs. 8,07,35,116/­  credited to capital reserve by the   assessee   pertains   to   principal   amount   borrowed without   there   being   any   component   of   interest embedded   therein.   In   that   view   of   the   matter   the dictum in  case of Mahindra and Mahindra Ltd (supra) would   be   applicable   and   as   such   neither   Section 28(iv) of the Act nor Section 41(1) of the Act would be applicable so as to tax the amount of waiver of Page 14 of 15

C/TAXAP/726/2019 ORDER loan comprising of principal amount in the ends of the assessee. 12.   In   view   of   the   foregoing   reasons,   we   are   in agreement with the findings given by the Tribunal. The question of law raised in this appeal cannot be termed as substantial question of law. Accordingly, this Tax Appeal stands dismissed with no order as to cost. (J. B. PARDIWALA, J) (BHARGAV D. KARIA, J) GIRISH Page 15 of 15