HINDUSTAN LEVER LTD. vs. THE C.I.T.B.C.III

itr-185-1999

IN THE HIGH COURT OF JUDICATURE AT BOMBAY ORDINARY ORIGINAL CIVIL JURISDICTION INCOME TAX REFERENCE NO. 185 OF 1999

Hindustan Lever Ltd. ] Hindustan Lever House, ] 165/66, Backbay Reclamation, ] Bombay – 400 020 ]  .. Applicant. V/s. The Commissioner of Income Tax ] Bombay City­II, Bombay ]  .. Respondent. Mr. Percy Pardiwalla, Senior Counsel a/w Mr. Nishant Thakkar and Mr. Rajesh Poojary i/b Mulla & Mulla & C.B.& L. for the Applicant. None for the Respondent.

CORAM:  M.S.SANKLECHA, & S.C.GUPTE, JJ.

RESERVED ON :   2nd SEPTEMBER, 2016. PRONOUNCED ON   :    8th SEPTEMBER, 2016. JUDGMENT (Per M. S. Sanklecha, J.):­ 1 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 ? S.R.JOSHI 1 of 14 CNR No : HCBM020091541990 Uploaded on - 21/08/2020 itr-185-1999 (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. 1978­79. 3 Briefly, the facts leading to this Reference are as under:­ (a) The   Applicant­Company   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 Applicant­Company  diluting   foreign  equity  share  holding  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) Applicant­Company 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 S.R.JOSHI 2 of 14 Uploaded on - 21/08/2020 itr-185-1999 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. S.R.JOSHI 3 of 14 Uploaded on - 21/08/2020 itr-185-1999 (d) Being aggrieved, the Revenue carried the issue in appeal to the Tribunal.  The Applicant­Assessee filed its cross­objection 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   cross­objection   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 / S.R.JOSHI 4 of 14 Uploaded on - 21/08/2020 itr-185-1999 object for issue of shares.   If the purpose and object for issuing shares,   was   to   enable   the   Applicant­Assessee   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 againstthe Applicant­Assessee 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 Applicant­Assessee.   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 S.R.JOSHI 5 of 14 Uploaded on - 21/08/2020 itr-185-1999 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 Applicant­Assessee. (iiii) However, the Applicant­Assessee 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 S.R.JOSHI 6 of 14 Uploaded on - 21/08/2020 itr-185-1999 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 thepresent case and no fault  can  be found in view of the Tribunal. (v) Mr. Pardiwalla, thereafter, relied upon certain observations of the Apex Court in  Brookebond (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 S.R.JOSHI 7 of 14 Uploaded on - 21/08/2020 itr-185-1999 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 Brookebond 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 Applicant­Assesses then placed reliance upon the decision of 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 Assessee­Company. 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 Assessee­Company was directed to buy 34% of shareholding of one of the warring group and cancel the same.   The   Respondent­Assessee   had   claimed   before   the S.R.JOSHI 8 of 14 Uploaded on - 21/08/2020 itr-185-1999 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 Assessee­Company by placing reliance upon its own decision annum in the pre­dispute 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. S.R.JOSHI 9 of 14 Uploaded on - 21/08/2020 itr-185-1999 (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. S.R.JOSHI 10 of 14 Uploaded on - 21/08/2020 itr-185-1999 (viii) In the above view, question (A) is answered in the affirmative i.e. in favour of the Revenue and against the Applicant­Assessee.

“Whether the Tribunal erred in setting aside the issue set off of  interest   income   from   share   application   money   against S.R.JOSHI 11 of 14 Uploaded on - 21/08/2020 itr-185-1999 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 S.R.JOSHI 12 of 14 Uploaded on - 21/08/2020 itr-185-1999 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 Co­ operative   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. S.R.JOSHI 13 of 14 Uploaded on - 21/08/2020 itr-185-1999 (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 Applicant­Assessee and against the Respondent­Revenue. 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 Applicant­Assessee; and (ii) Question(B) in the negative i.e. in favour of the Applicant­Assessee and against the Revenue. 9 Income Tax Reference disposed of in the above terms.  No order as to costs. (S.C.GUPTE,J.)

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