M/S. CHENNAI PETROLEUM CORPORATION LTD.,CHENNAI vs. ACIT, CHENNAI

आदेश /O R D E R Per Sanjay Arora, AM: These are cross appeals, i.e., by the Assessee and the Revenue, arising out of the order by the Commissioner of Income Tax (Appeals), LTU, Chennai

2 ITA Nos. 1858 & 1980/Mds/2011 (AY 2004-05) Chennai Petroleum Corporation Ltd. (‘CIT(A)’ for short) dated 14.09.2011, partly allowing the assessee’s appeal contesting its’ assessment for u/s. 143(3) of the Income Tax Act (‘the Act’ hereinafter) dated 26.12.2006 for assessment year (AY) 2004-05.

Assessee’s Appeal (ITA No. 1858/Mds./2011) 2. The first issue, raised per Gd. 2; Gd. 1 being general in nature, warranting no adjudication, is the disallowance of ‘reset fee’ incurred in the sum of �. 13.48 cr., charged and paid by the assessee during the relevant previous year. The brief facts of the case are that the assessee assumed borrowings for financing the expansion of it’s refining capacity, contracting loan/s from Oil Industries Development Board (OIDB) for the purpose. In view of the decline in interest rates subsequent to the year 2000, the assessee sought, in view thereof, a change in the interest rate/s to lower than the contracted rate/s or, in the alternative, a permission to liquidate the high cost loan/s by, ostensibly, availing fresh loan/s at the prevailing, lower rate/s of interest. OIDB allowed continuing the existing borrowing, i.e., at the lower rate/s of interest, subject to payment of 2 per cent. of the outstanding loan/s, which was termed as ‘reset fee’. The Revenue regards it as interest, within the meaning of the term as defined u/s. 2(28A) of the Act. The same, after all, is only a one time fee incurred in lieu of the recurring cost in the form of higher interest. The same would therefore stand to be allowed u/s. 36(1)(iii). So, however, as the same is in respect of borrowing/s applied for setting up the new refinery, which was in progress, the interest cost would stand to be capitalized as a part of the project cost in view of proviso to s. 36(1)(iii), inserted by Finance Act, 2003, w.e.f. 01.04.2004, reading as under: ‘Other deductions 36. (1) The deductions provided for in the following clauses shall be allowed in respect of the matters dealt with therein, in computing the income referred to in section 28- (i) to (ii)…

3 ITA Nos. 1858 & 1980/Mds/2011 (AY 2004-05) Chennai Petroleum Corporation Ltd. (iii) the amount of the interest paid in respect of capital borrowed for the purposes of the business or profession: Provided that any amount of the interest paid, in respect of capital borrowed for acquisition of an asset (whether capitalised in the books of account or not); for any period beginning from the date on which the capital was borrowed for acquisition of the asset till the date on which such asset was first put to use, shall not be allowed as deduction.’

4 ITA Nos. 1858 & 1980/Mds/2011 (AY 2004-05) Chennai Petroleum Corporation Ltd. ‘first put to use’, would not form part of the cost of the said capital asset. The interest during the construction period, i.e., prior to it being ‘first put to use’, would thus stand to be capitalized. Further, that therefore the proviso to s. 36(1)(iii) is clarificatory and, thus, retrospective in nature, as indeed held in JCT Ltd. v. Dy. CIT [2005] 276 ITR 115 (Cal). The non-capitalization of interest in books, following Accounting Standards or otherwise, stands rendered as of no consequence in view of the clear language of the provision. The position of law, however, for A.Ys 2004-05 and the subsequent years, is without any shadow of doubt, as clarified by the Apex Court in Dy. CIT v. Core Health Care Ltd. [2008] 298 ITR 194 (SC). The Revenue’s stand is, accordingly, upheld, dismissing the assessee’s ground. We may though add that the Revenue has, capitalizing the interest cost, considered the same for grant of depreciation (refer para II (pg.4) of the assessment order).

5 ITA Nos. 1858 & 1980/Mds/2011 (AY 2004-05) Chennai Petroleum Corporation Ltd.

6 ITA Nos. 1858 & 1980/Mds/2011 (AY 2004-05) Chennai Petroleum Corporation Ltd. 7. The fourth and the final ground of the assessee’s appeal is the consideration by the Revenue of the interest on delayed payments against supply of crude and interest on loans/advances as ‘income from other sources’. The assessee claims the same as forming part of the business income and, in the alternative, only the net income on account of interest being liable to be excluded in view of the decision in ACG Associated Capsules Pvt. Ltd. (supra).

7 ITA Nos. 1858 & 1980/Mds/2011 (AY 2004-05) Chennai Petroleum Corporation Ltd. income under which an income is assessable depends on the manner in which it is derived. How could the same, we wonder, be faulted? In fact, the Hon'ble Apex Court has in Bokaro Steel Ltd. (supra) and Karnal Co-operative Sugar Mills Ltd. (supra) applied the same principles, to find, in the facts and circumstances of the case, the interest income as incidental to the acquisition of the asset/s or the setting up of the plant and machinery, so as to be a capital receipt which would go to the reduce the cost of the relevant asset, in the same manner as the interest cost on borrowings applied for the same stands to be included as a part of the actual cost of the asset u/s. 36(1)(iii) r/w s. 43(1), more particularly A.Y 2004-05 onwards. We may at this stage also dwell on the quantum of exclusion (reduction) under Explanation (baa). This is as, even if regarded as income from other sources, in-as-much as the interest cost relatable to the interest receipt, where incurred, is thus deductible u/s. 57(iii) (the onus to establish which would be on the assessee), and it is only the net (interest) income that would stand to be excluded. This is as the said interest cost, debited to the profit and loss account of the company, cannot therefore continue to be claimed or regarded as deductible u/s. 36(1)(iii) as business expenditure. Where, however, assessable as business income, as in the case of that received from trade debtors, no adjustment qua interest receipt may be required as the corresponding interest cost – the financing cost being incurred in relation to the entire debt portfolio, i.e., rather than the debt representing the delayed payment only, may be considered as standing reduced to that extent, i.e., by and to the extent of the interest received/receivable. The same, it may be noted, is akin to the realization by way of sale of scrap, which is to be regarded only as a reduction in the cost of raw-material and not as an independent income. We, accordingly, only consider it proper, in the absence of the requisite details, while confirming the validity of the principles relied upon by the

8 ITA Nos. 1858 & 1980/Mds/2011 (AY 2004-05) Chennai Petroleum Corporation Ltd. Revenue, to remit the matter back to the file of the ld. CIT(A) for a decision on merits after hearing the parties before him. We decide accordingly.

Revenue’s Appeal (ITA No. 1980/Mds./2011) 9. We next consider the Revenue’s appeal. The first issue in the Revenue’s appeal is the maintainability or otherwise in law of the deduction in respect of the revamping cost of it’s existing Visbreaker unit, work on which was abandoned midway by the assessee. While the assessee claims it as a revenue expenditure, the Revenue insists it to be only in the nature of a capital loss. The ld. CIT(A) has upheld the assessee’s claim, following the decision in CIT v. Tamil Nadu Chemical Products Ltd. [2003] 259 ITR 582 (Mad); CIT v. Graphite India Ltd [1996] 221 ITR 420 (Cal) and CIT v. Anjani Kumar Co. Ltd. [2003] 259 ITR 114 (Raj). Before we proceed further in the matter, it would be relevant to ascertain the facts and determine the nature of the expenditure and, thus, the issues arising in respect of the said claim. The visbreaker unit was originally commissioned in 1979. In February, 1995, it was decided to revamp the same, upon which it would be able to handle 5.50 lakh TPA of heavy ends from the existing refinery, and cost about �. 47 cr. Meanwhile, the assessee’s expansion project for enhancing its refining capacity (by 3 MMTA) was approved by the Government of India (GoI). The same required another 6 lakh TPA of visbreaker capacity. Engineers India Ltd. (EIL) indicated the cost of the plant and machinery for the combined Visbreaker (11.50 lac TPA) at �. 78 cr. The total cost of two separate projects was estimated at �. 130 cr., while, on the other hand, the total cost, after adding other components like process package, engineering fee, contingency, etc. of a new plant with equivalent capacity, would be �. 105 cr., resulting in a saving of �. 25 cr. In addition, the distillate yields of the new visbreaker unit would be 30%, while that of the revamped visbreaker unit, due to inadequacy of space for additional equipment, was not expected to exceed

9 ITA Nos. 1858 & 1980/Mds/2011 (AY 2004-05) Chennai Petroleum Corporation Ltd. 15%. The company, accordingly, vide the meeting of it’s Board of Directors (BOD) dated 18/11/1997, approved the dropping of the visbreaker revamping project (minutes at PB pages 151-152). Though there was no fresh commitment to expenditure for the said (revamping) project, the company had by then already expended � � . 610.02 lacs thereon, including . 172.14 lacs on steel, structurals, etc. and �. 197.50 lacs on construction of tank pads. Of the same, the company was able to retrieve costs worth �. 378.37 lacs by using the steel plates, structurals, tanks, for its other ongoing projects, leaving a balance un- utilized expenditure of �. 231.65 lacs. This was done during the years 1998 and 1999, informing the Board and taking its advice vide BOD meetings dated 25/2/1998 and 06/9/1999. There being no scope for recoupment of this balance expenditure in any of the ongoing/future projects, the same was finally written off on sanction vide BOD meeting dated 14/4/2004. Provision for the same had in fact been made in accounts earlier, i.e., in f.y. 1998-99 (�. 150.66 lacs), f.y. 2000-01 (�. 12.47 lacs) and f.y. 2001-02 (�. 68.52 lacs) (PB pgs. 142 – 150). The first issue, therefore, that arises is whether the write off is deductible for the current year. The revamp project had been finally dropped on 18/11/1997, i.e., during the previous year relevant to A.Y 1998-99, and in fact deleted prior to 06/9/1999, of which the Board was informed on that date. Further, even the balance was clearly provided in books over a period of time, giving detailed reasons as to why it was not possible to absorb those costs, detailed as under, in the other projects of the company: (PB pgs. 146-147) (�.) I. Accounting year 1998-99 – Process package 1. Payment to EIL – Process package 61,20,000 2. Payment to EIL – Detailed engineering 79,65,000 3. Miscellaneous expenditure incurred 9,81,479 150,66,479

10 ITA Nos. 1858 & 1980/Mds/2011 (AY 2004-05) Chennai Petroleum Corporation Ltd. II. Accounting year 2000-01 – Rs. 12,46,968 4. Advance paid BHEL for supply of Soaker Drum 12,46,968 III. Accounting year 2001-02 – Rs. 68,52,209 5. Balance amount of allocated interest and overheads 45,70,832 after transferring to construction of tank pads 6. Balance stock / materials available in project stores 16,42,824 7. Miscellaneous expenditure incurred 6,38,553 68,52,209 Total provisions made in the books: (I+II+III) 2,31,65,656

That being so, how, we wonder, would the same be deductible for the current year? The allowability, i.e., assuming it to be deductible u/s. 37(1), would only be when the costs, identified and confirmed as dead costs, were provided for in the books of account. Carrying these costs in accounts, confirmed as sunk costs, by not writing them off, but only making a provision for it, is not understood, though would nevertheless stand to be allowed (on provision) in view of the same constituting an effective charge on the profit of the company (through debit to the profit and loss account). Further, even if there is a debit to the profit and loss account for the current year, i.e., the year of write off, the same would stand offset by the write back of the provision to that extent, being no longer required, neutralizing the said debit. There is thus no charge or taxable event for the current year. Further still, the write off being sanctioned by the Board only on 14.04.2004, the same could be effected in the accounts only for the following year; the current expiring on 31.03.2004. Each year is a separate and independent unit of assessment, and income of each year is assessable only for that year. This represents trite law, apparent from a bare reading of ss. 3, 4 & 5 of the Act. Reference in this context may also be made to the decision in CIT v. British Paints India Ltd. [1991] 188 ITR 44 (SC). There is, thus, at the threshold, no basis for the impugned expenditure being considered for allowability for the current year. We are, we may add, conscious that this is not the reason advanced by the Revenue for non-acceptability of the assessee’s

11 ITA Nos. 1858 & 1980/Mds/2011 (AY 2004-05) Chennai Petroleum Corporation Ltd. claim. The moot question, however, is whether this would constrain the Tribunal from taking cognizance of the material on record and decide in accordance with law, i.e., after determining the facts. It is the correct legal position that is relevant, and not the view that the parties may take of their rights in the matter (CIT v. C. Parakh & Co. (India) Ltd. [1956] 29 ITR 661 (SC); Kedarnath Jute Mfg. Co. Ltd. v. CIT [1971] 82 ITR 363 (SC)). The tribunal as an appellate authority, is under bounden duty to correct the errors, if any, attending the proceedings for assessment, issuing appropriate directions. (refer, inter alia, Kapurchand Shrimal v. CIT [1991] 131 ITR 451 (SC)). As explained in CIT v. Walchand and Co. (P.) Ltd. [1967] 65 ITR 381 (SC), the tribunal is to deal with and determine all the questions which arise out of the subject matter of appeal, in light of the evidence and consistently with the justice of the case. Without prejudice to the foregoing, i.e., the reason/s for which we consider the assessee’s claim as not valid for the current year, the costs incurred and, thus, being claimed, are only capital expenditure. That the same did not finally result in a capital asset would not in any manner change the character of the expenditure as capital expenditure; rather, only imply the same to be a capital loss, i.e., a loss in the capital field or on capital account. The same, without doubt, stands incurred only for the purpose of business, but being capital in nature, is impermissible for deduction u/s. 37(1). A capital expenditure, merely because it is infructuous, would not alter its character as such, as indeed is the case qua a revenue expenditure. That an expenditure is abortive or does not serve its intended purpose is by itself no reason for it being not allowed or allowed, where otherwise allowable or, as the case may be, not deductible, i.e., for that reason. The law in the matter is well settled and the case law legion, and toward which we may cite some decisions: A.V. Thomas & Co. Ltd. v. CIT [1963] 48 ITR 67 (SC) Swadeshi Cotton Mills Co. Ltd. v. CIT [1967] 63 ITR 65 (SC) Hasimara Industries Ltd. v. CIT [1998] 230 ITR 927 (SC)

12 ITA Nos. 1858 & 1980/Mds/2011 (AY 2004-05) Chennai Petroleum Corporation Ltd. Hasimara Industries Ltd. v. CIT [1998] 231 ITR 842 (SC) None of the decisions by the Hon'ble Apex Court, clarifying the law in the matter, have been considered in the case law relied upon by the assessee/ld. CIT(A). How could, then, the same be followed? Why, the Hon’ble jurisdictional High Court, relying on the decisions by the Apex Court, including by its larger bench constitution in Swadeshi Cotton Mills Co. Ltd. (supra), held likewise per its recent decision in Kwality Fun Foods and Restaurants (P.) Ltd. [2013] 356 ITR 170 (Mad). The decision in Tamil Nadu Chemical Products Ltd. (supra) is in respect of deduction u/s. 35AB qua technical know-how, a capital expenditure, with the said deduction being in the nature of a capital allowance, as depreciation allowance u/s. 32(1), and has therefore no application in the facts of the present case. The assessee’s case is accordingly without merit. We, for the foregoing reasons, allow Grounds 2.1 through 2.3 of the Revenues’ appeal; Gd. 1 being general in nature, not warranting any adjudication, in its favour. We decide accordingly.

13 ITA Nos. 1858 & 1980/Mds/2011 (AY 2004-05) Chennai Petroleum Corporation Ltd. plant was kept ‘read-to-use’ though could not be used for reasons and circumstances beyond the control of the assessee. The decision thus turns on the ‘ready to use’ being a sufficient compliance of the condition of user in s. 32(1). The argument appears to be that the plant, though could not be worked due to non-availability of the raw material, is yet kept ready for use, which may be regarded as a passive, as against active, user. The argument has appeal only where the supply of raw material is expected to be restored soon or, even otherwise, imminent. In the present case, however, the absence of supply continues for years. How is the assessee, then, able to produce? Is the process outsourced? How are the others in the industry faring in this regard? There is in fact nothing on record to show that the gas sweetening plant was kept in a ‘ready-to-use’ state during the relevant previous year. How could then, one may ask, the said order be applicable for the current year? Reliance thereon by the ld. CIT(A) is mechanical and misplaced. To be fair, we notice that though such a contention was raised before him (para 6.1 of the impugned order), i.e., of the asset being kept ready for use, the same is without reference to any material. He ought to have, rather than proceeding on that basis, i.e., assuming it to be correct, ought to have required the assessee to substantiate the same, observing the procedure u/r. 46A. And even where considered proper to admit additional evidence, i.e., considering that though it is principally the assessee’s duty to prove it’s claims, the AO also ought to have called upon the assessee to do so, the first appellate authority could have proceeded in the matter only after observing the procedure u/r. 46A(2). The matter, it needs to be appreciated, is factual, and it is highly improbable that a plant, idle for years (due to unavailability of raw material), is yet kept in a ‘ready for use’ state. There is also nothing on record toward any development suggesting an anticipated regular supply of raw material (sour gas). Why would then the company keep the plant in a ‘ready to use’ state, entailing upkeep & maintenance costs? In fact,

14 ITA Nos. 1858 & 1980/Mds/2011 (AY 2004-05) Chennai Petroleum Corporation Ltd. there is nothing to suggest that the assessee’s operations of refining crude oil and manufacturing petroleum products have suffered on account of non- operation of this plant, so that presumably alternate processes stand since formalized and stream-lined, i.e., undertaken on a regular basis. That is, the assessee’s claim of the plant being kept ‘ready to use’ is, under the given facts and circumstances of the case, quizzical. The matter, therefore, to enable the assessee an opportunity to prove it’s claim of the plant being kept ready for use, would stand to be remitted back to the file of the ld. CIT(A) for a decision thereon on merits after examination per a speaking order, observing the due process of law. Continuing further, the issue that in our view arises is not whether the plant was during the relevant year in a ready-to-use state, of which there is no evidence, but whether a plant or machinery could form part of the relevant block of assets – on the value of which alone depreciation is exigible, without being actually put to use, i.e., for the purposes of the business or profession of the assessee. The reason for the same is simple, and lies in the language of the provision itself. Section 32(1) in its relevant part reads as under: ‘Depreciation. 32. (1) In respect of depreciation of— (i) building, machinery, plant or furniture, being tangible assets; (ii) know-how, patents, copyrights, trade marks, licenses, franchises or any other business or commercial rights of similar nature, being intangible assets acquired on or after the 1st day of April, 1998, owned, wholly or partly, by the assessee and used for the purposes of the business or profession, the following deductions shall be allowed – (i) in the case of assets of an undertaking engaged in generation or generation and distribution of power, such percentage on the actual cost thereof to the assessee as may be prescribed; (ii) in the case of any block of assets, such percentage on the written down value thereof as may be prescribed: Provided…. Provided further that where an asset referred to in clause (i) or clause (ii) or clause (iia), as the case may be, is acquired by the assessee during

15 ITA Nos. 1858 & 1980/Mds/2011 (AY 2004-05) Chennai Petroleum Corporation Ltd. the previous year and is put to use for the purposes of business or profession for a period of less than one hundred and eighty days in that previous year, the deduction under this sub-section in respect of such asset shall be restricted to fifty per cent of the amount calculated at the percentage prescribed for an asset under clause (i) or clause (ii) or clause (iia), as the case may be.’ [emphasis, ours] Provided also …. Section 2(11) defines a ‘block of assets’, qua both tangible and intangible assets, as a group of assets falling within a class of assets in respect of which the same percentage of depreciation is prescribed. After its substitution by Finance (No.2) Act, 1988, w.e.f. 01/4/1989, depreciation u/s. 32(1) is exigible, except in respect of assets of an undertaking engaged in generation and distribution of power, at a specified percentage, on the written down value (WDV) of a block of assets. In other words, the condition of ‘put to use’, rather than being a qualifying condition for depreciation on an individual asset, as is being claimed, becomes a condition for it forming a part of a block of assets. It could not, after all, be that though an asset is eligible for depreciation, it yet cannot enter a block. No depreciation, as noted, is exigible on the value of an individual asset, save the excluded category, except on it forming part of a block of assets. And which explains the question posed by us. The word employed is ‘used’. The words ‘used for the purposes of business or profession’, occurring in sec. 32(1), came up for consideration by the Hon'ble Apex Court in Liquidators of Pursa Limited v. CIT [1954] 25 ITR 265 (SC), while interpreting sec. 10(2)(iv) (of the 1922 Act), containing the same words. The Hon'ble Court held that plant must be used for the purposes of the business or profession which was actually carried on and the profit of which is assessable u/s. 10(1). In the facts of that case, the assessee company, growing sugarcane and manufacturing and selling sugar, entered into an agreement for sale of its’ lands, building, machinery and plant as on August 9, 1943. The consideration therefor was received on 07.12.1943 and the possession of the

16 ITA Nos. 1858 & 1980/Mds/2011 (AY 2004-05) Chennai Petroleum Corporation Ltd. factory given on 10.12.1943. The assessee continued to sell the stocks of sugar, which was not sold along with other assets, from August 9, 1943 to December 10, 1943, and claimed on that basis to be carrying on business. The plant and machinery was admittedly never used during the accounting year, though kept in trim and running order, on which basis it claimed the excess arising on the sale of machinery as business profit u/s. 10(2)(vii). The Hon'ble Court denied the same, holding as under: (pg. 275) ‘Turning to the facts to be gathered from the records it is quite clear that the intention of the assessee was to discontinue its business and the sale of the machinery and plant was a step in the process of the winding up of its business. The sale of the machinery and plant was not an operation in furtherance of the business carried on by the assessee but was a realisation of its assets in the process of gradual winding up of its business which eventually culminated in the voluntary liquidation of the company. Even if the sale of the stock of sugar be regarded as carrying on of the business by the company and not a realisation of its assets with a view to winding up, the machinery or plant not being used during the accounting year at all and in any event not having had any connection with the carrying on of that limited business during the accounting year, s. 10(2)(vii) can have no application to the sale of any such machinery or plant. In this view of the matter, the answer to the first question should be in the negative and we answer accordingly.’

It noted that the word ‘used’ had been used in some pool cases in a wide sense so as to include passive user as well. Declining to enter into the aspect of passive user, the Apex Court held that in whatever sense the word was used, it was clear that to attract the operation of ss. 10(2)(v),(vi) & (vii), the asset must be used, at least for a part of the year. [Clauses (v), (vi) and (vii) of s. 10(2) refer to the same assets as referred to in s. 10(2)(iv), i.e., used for the purpose of business or profession, with s. 10(2)(vi) being in respect of depreciation.] In its words: (pgs. 272-273) ‘The word "used" has been read in some of the pool cases in a wide sense so as to include a passive as well as active user. It is not necessary, for the purposes of the present appeal, to express any opinion on that point on which the High Courts have expressed different views. It is however, clear that in order to attract the operation of clauses (v), (vi) and (vii) the

17 ITA Nos. 1858 & 1980/Mds/2011 (AY 2004-05) Chennai Petroleum Corporation Ltd. machinery and plant must be such as were used, in whatever sense that word is taken, at least for a part of the accounting year. If the machinery and plant have not at all been used at any time during the accounting year no allowance can be claimed under clause (vii) in respect of them and the second proviso also does not come into operation.’ Surely the user referred to by the Hon'ble Apex Court implies only an actual user. As we shall presently show, the same includes passive user as well. In Dineshkumar Gulabchand Agrawal v. CIT [2004] 267 ITR 768 (Bom), it was held that the word ‘used’ in s. 32 denotes that the asset has been actually used and not merely ready for use. SLP against the same has been dismissed in [2004] 266 ITR (St.) 106. Passive user, given the nature of user, is only an actual user. Take, for example, the case of an electric generator which is used as a standby in case of power failure. It is maintained in good running condition, with fuel, i.e., ready for being used as and when required. Could it, in case of no power failure during the year, be said to have not been used, disentitling depreciation? It is clearly a passive user as against active one, entitling depreciation. The tribunal in G. Shoes Exports v. Asst. CIT (in ITA Nos.5736 and 6209/Mum/2014, dated 24.10.2016), examined a number of decisions to find that in each case of passive user, as in the pool cases referred to by the Hon'ble Apex Court in Liquidators of Pursa Limited (supra), there is an implied, as against a notional, user. We extract a part of the said decision as under to exhibit the same, which, incidentally, also bears reference to a situation obtaining in the present case:

‘3. We have heard the parties, and perused the material on record. Discussion 3.1 The question before us is if the assessee is eligible for it’s claim of depreciation allowance on the new Windmill acquired by it. Section 32(1), which provides for depreciation allowance under the Act, reads as under: ‘Depreciation. 32. (1) In respect of depreciation of—….

18 ITA Nos. 1858 & 1980/Mds/2011 (AY 2004-05) Chennai Petroleum Corporation Ltd. User is thus one of the two preconditions or prerequisites – the other being ownership (of the capital asset), for the claim of the depreciation allowance u/s. 32(1) of the Act. The word employed in the provision is ‘used’, as emphasized by the Hon’ble jurisdictional High Court in Dineshkumar Gulabchand Agrawal vs. CIT [2004] 267 ITR 768 (Bom) (SLP against which stands dismissed by the Apex Court, reported at ([2004] 266 ITR (St.) 106), so that an asset, to be eligible for the claim of depreciation in its respect, is to be actually used, i.e., as the word ‘used’ occurring therein was considered by the Hon’ble Court as denoting, and that a ‘ready to use’ state shall not entitle a claim of depreciation qua the said asset. In the facts of Whittle Anderson Ltd. vs. CIT [1971] 79 ITR 613 (Bom), referred to by the Hon’ble Court, the agreement clearly provided two of the four presses which were diverted in the pooling arrangement were to remain idle while the two presses worked; the owners of those presses had to keep them ready for use at any time and the contingency for their use could also, upon the terms of the agreement, arise at any time. The machines were thus under forced idleness and, accordingly, liable to be considered as in use during the relevant period in-as-much as they were kept ready for use at any moment. Similar was the situation in CIT vs. Vishwanath Bhaskar Sathe [1937] 5 ITR 621 (Bom). How, we wonder, could a different view be taken; the machine being kept ready for use at any moment. They were surely deployed in business, and their being put to actual use being a contingency over which they had no control and, further, which could arise at any time. In fact, the identity of the machines which were idle and which worked would keep changing from time to time, and, was not relevant; the purport of the arrangement being to keep some machines (productive capacity) in surplus, as a standby, so that the production did not suffer on account of a breakdown in any of the working machines (operating capacity). How could then, one may ask, a difference be made, for the machine ‘used’ vis-à-vis that ‘not used’, all of which formed part of a pool, made available, some of which were to necessarily remain idle at any given time, albeit liable to be used at any time. In CIT vs. G. N. Agrawal [1996] 217 ITR 250 (Bom), again, the trucks under repair during the relevant year were already part of the assessee’s business (operational) assets, having been put to use earlier, as also in the subsequent year. Their being thus under repair during the relevant year was considered by the Hon’ble Court as of no moment. Surely, the capital assets already deployed in, and committed to the business could not be regarded as not in use merely on account of the suspension from active user on account of withdrawal from service for repairs, which is only to ensure the continuity of their service. It was under such like circumstances, signifying passive user, as against an active one, that the Hon’ble Court found the same as satisfying the test of ‘user’ and, thus, liable to be regarded as ‘used’ in terms of section 32(1). Can, for example, a plant or machinery, which could not be used for want of (say)

19 ITA Nos. 1858 & 1980/Mds/2011 (AY 2004-05) Chennai Petroleum Corporation Ltd. feedstock or energy, be regarded as ‘used’, so as to be eligible for depreciation. The answer, to our mind, would depend on whether the same is functional as also if it stands put to use earlier. Surely, where so, temporary non-user will not disqualify the same as the same could only be regarded as available for use and, accordingly, a case of a passive user. Where, however, the machinery has not been put to use as any time earlier, and is to be put to use for the assessee’s business for the first time, it cannot be regarded as an asset in passive use. Then, again, what may also be relevant is if the same is liable to be used in future. If (say), the user is proscribed in-as-much as the manufacturing process requires a raw material which is banned, so that the machinery cannot be under normal circumstances restored to production, there is no question of it being regarded as a passive user, in contradistinction to an active one, entitling depreciation. Idleness or temporary suspension from active user would not therefore disentitle a claim for depreciation.

3.2 Continuing further, a plant or machine (or any capital asset for that matter), therefore, cannot be regarded as setup or established or, put differently, ready to be commenced, ……..

3.3 Trial run is in fact a stage anterior to the ready to use state. That is, the set-up or the ready-to-use state is a stage subsequent to the trial run or trial production, to which a plant or machine is subject, to test it’s operational fitness, i.e., of it being able to produce or manufacture an article or thing it is acquired for and, therefore, deliver. It is a process of setting up the plant for the intended purpose, i.e., of it being operationally fit. Serious glitches may be discovered at this stage, so that the plant is not ready for production and, therefore, not ready for use, and which would therefore require being suitably addressed. In fact, as explained by the assessee itself during assessment proceedings, the process of generating electricity through the wind turbine is a complex process, requiring many machines like shafts, rotor blades, generators, turbines, transformers and converters. All these machines are interconnected via large networked supply lines and delicate electrical circuits. There are many electrical engineers along with energy specialists working together in unison to setup and commission the windmill project at the site. Computer programming is done at the site on the windmill system, so that heavy electrical circuits run on automation and fail-stop in case of overloads to protect the system. After erection and set up, such systems are tested to affirm whether the machines are working in unison without over loading, electrical surges or other glitches. It is only thereafter that it can be said to be commissioned or operational. A fit trial run is thus a testing phase before which a plant can be declared as fit and ready for use, i.e., commissioned. No wonder, all the expenditure up to this stage stands to be capitalized as cost of the project (also refer: Challapalli Sugars Ltd. vs. CIT [1975] 98 ITR 167

20 ITA Nos. 1858 & 1980/Mds/2011 (AY 2004-05) Chennai Petroleum Corporation Ltd. (SC)). How, then, can a plant or machinery be regarded as being capable of being used, much less actually used, even if passively, prior thereto?’ [emphasis, supplied] In other words, there is without doubt a case for depreciation being allowed in case of passive user, which must only be, in the facts and circumstances of the case, regarded as an actual user. The present, on the contrary, is a case of non- user. When there is no availability of raw-material, the plant is incapable of being used. What value then, one may ask, it’s being kept in a ready to use state? It is not, we emphasise, a case of the raw material being in short supply or of its supply being temporarily suspended, but its continued unavailability for years, since the installation of the plant, or perhaps even earlier. Could it, under the circumstances, be said that the plant stands used, albeit passively? We think not. The test explained in Liquidators of Pursa Ltd. (supra) qua the words "used for the purpose of the business" is to mean "used for the purpose of enabling the owner to carry on the business and earn profits in the business", even as noted in CIT v. Maps Tours & Travels [2003] 260 ITR 655 Mad) (at pg. 656). How could the plant in the present case be even remotely considered as enabling the carrying on of its’ business by the assessee. There is no passive user in the instant case, much less for the purpose of the assessee’s business. In Maps Tours & Travels (supra), the following question of law was answered by the Hon’ble Court in the affirmative: "Whether, on the facts and in the circumstances of the case, the Tribunal is right in law in directing that the assessee is entitled to depreciation in respect of the ten motor cars purchased on March 30, 1989, and March 31, 1989, even though the assessee had not proved the fact that the assets were used for the purpose of business during the relevant accounting year?" The motor cars, which were the assets in the said case, could not, in the absence of registration, be put to use, as correspondingly, is the complete absence of the raw-material in the present case. The argument of ready to use is, under the circumstances, as was in that case, misplaced. This aspect becomes even more

21 ITA Nos. 1858 & 1980/Mds/2011 (AY 2004-05) Chennai Petroleum Corporation Ltd. apparent when the matter is examined in light of the extant law, i.e., s. 32, as it has developed over a period of time. The second proviso to s. 32(1) requires an asset to be put to use for a period of 180 days during the year of its acquisition to entitle it for depreciation at the normal (prescribed) rate. A user below the said time period would operate to restrict depreciation to 50 per cent of the depreciation at the normal rate. No doubt the said examination of the extent of user is limited to the year of the acquisition of the asset, which perhaps could be in view of the impracticality of such examination once it enters the block of assets. The question, however, that is relevant is if it could also include the period for which the asset is kept ready for use. We think not as, clearly, user in actual terms only could possibly be or contemplated for being measured in terms of the period of user. This would, we may add, and as explained above, include passive user as well. However, to measure ‘notional user’, that the expression ‘ready to use’ signifies, in terms of its period, is facile. The question therefore that arises for answer, and which we consider as meriting one in the negative, is: Could a notional user entitle an asset for depreciation. The question posed earlier, i.e., at the start of the discussion, would also stand slightly modified to: Whether the asset can be said to be entitled to depreciation without any user, active or passive? An asset cannot enter a block of asset without such a user, so that the WDV of the relevant block of assets (on which only depreciation is to be allowed), as including its acquisition cost, does not arise. We are conscious that depreciation stands allowed on the said plant for AY 1997-98. However, in view of the clear finding of the relevant plant being not put to use at any time after its installation, the same could not, clearly, be considered as a part of the block of assets, on which alone depreciation is to be allowed for the current year. The depreciation for AY 1997-98, as we understand, stands allowed in view of trial run. A trial run is a part of the setting up of the plant for actual use, i.e., for the purpose for which it

22 ITA Nos. 1858 & 1980/Mds/2011 (AY 2004-05) Chennai Petroleum Corporation Ltd. stands acquired. The same is thus only a part of the commissioning of the plant. No wonder, the cost of trial production, wherein all the technical glitches stand to be removed and the production capability verified, including as to the quality of the output, stands to be capitalized as part of the project (asset) cost, on which depreciation is to be, upon user, allowed. The matter stands examined in some detail in G. Shoes Exports (supra) (refer para 3.3 of the said order). We may, before parting with our order, address the decision in CIT v. Vayithri Plantations Ltd. [1981] 128 ITR 675 (Mad), relied upon by the tribunal in the assessee’s case for AY 1998-99 supra. The same, as its reading reveals, is distinguishable on facts as well as in law. We have, firstly, explained that this is a case of complete non user and not a case of passive user, as was found by the Hon'ble Court in that case. The plant is idle since its installation in f.y. 1996-97, i.e., for years, for want of raw-material, which appears to be banned. There is in fact, strangely, no explanation, at any stage, in this respect. The assessee company has ostensibly found an alternate method for achieving the results (production) sought to be attained by using the gas sweetening plant. Could it be then said that the said plant is being used and, further, for the purposes of the assessee’s business? There is, under the circumstances, no passive user for the assessee’s business, with even the claim of the ready-to-use state being suspect, so as to require verification. In fact, the ‘ready to use’ argument loses significance under the circumstances, which is relevant only where it amounts to a passive user. The non user in Vayithri Plantations Ltd. (supra) was on account of labour unrest, an aberration. The same was, under the circumstances, regarded by the Hon'ble Court as a case of passive user. Availability of raw material for which the plant is designed (even if not on a regular basis), is, on the other hand, integral to its’ functioning and not extraneous thereto, as was found by the Hon’ble Court in that case. It may be that the company has found alternate sources for achieving the desired result, or an alternate technology so

23 ITA Nos. 1858 & 1980/Mds/2011 (AY 2004-05) Chennai Petroleum Corporation Ltd. as to discard the earlier arrangement as unfeasible or uneconomical or, plainly, as not legal/keeping with public policy – as, for example, where the raw material (sour gas) has, or results in, (higher) pollutant/s. The position is completely unexplained, much less, examined. There could be no presumption as to passive user under the circumstances. The same, it may be appreciated, is only when the actual supply of raw material is imminent, so that it could reasonably be argued that the plant is kept ready impending the receipt of the raw material, as where a purchase order for the same stands issued. We have, on principle, abundantly clarified that a passive user, even citing examples thereof, where so, would entitle depreciation. Two, the Hon'ble Court in that case disregarded the Revenue’s contention of the words ‘put to use’ in the following year, as appearing in the second part of s. 33, on the ground that the same may hold or apply where a new business is being set up, so that the asset is first put to use in that year. The two limbs were separate. The words ‘used’ and ‘put to use’, occurring in sec. 32(1) and the second proviso thereto respectively, however, form part of one integrated code, to be assigned the same meaning and understood in the same sense. It could not be otherwise. The said decision would therefore not apply in the present case. Further, we also clarify that we state so on the basis of an appreciation of facts, which is, with respect, missing in the tribunal’s order supra. In fact, the cited decision by the Hon'ble High Court was relied upon only by the ld. third member. In view of the foregoing, we are not inclined to consider the assessee’s case as covered by the decision by the tribunal in its’ own case for A.Y 1998-99 (in ITA No.1822/Mds/2006). As, however, no specific arguments in relation to this ground were made at the time of hearing, and the matter heard summarily on the basis of it being covered by the tribunal’s order supra, we only consider it proper to, in the interest of justice and the fairness of procedure, restore the matter back to the file of the ld. CIT(A) for a decision on merits per a speaking

24 ITA Nos. 1858 & 1980/Mds/2011 (AY 2004-05) Chennai Petroleum Corporation Ltd. order in accordance with law and after allowing both the parties before him a reasonable opportunity of hearing. The principle of res judicata, we may add, has no application in the proceedings under the Act. Why, in that case, the AO was bound to allow depreciation, and could not have adopted the view he does (refer, inter alia, New Jehangir Vakil Mills Ltd. v. CIT [1963] 49 ITR 137 (SC)). The tribunal is, in our view, in view of its findings, obliged to direct so (refer Walchand and Co. (P.) Ltd. (supra)). Further, we may clarify, that the ld. CIT(A) need not constrain himself by the opinion expressed by us in this order and, rather, is to take an independent decision, of course having regard to and taking guidance from our observations, which though shall have persuasive value, answering the questions/issues posed/raised by us, or any other he deems relevant and proper, for the purpose. The ‘ready-to-use’ claim, where found as relevant by him, shall require being verified. That is, his is to be an independent order, determining and taking into account the relevant facts, and the law in the matter; with we considering it proper to do so, so as to remove the procedural infirmity as well as a lack of proper examination of the relevant facts. We decide accordingly.

25 ITA Nos. 1858 & 1980/Mds/2011 (AY 2004-05) Chennai Petroleum Corporation Ltd. आदेश क� ��त�ल�प अ�े�षत/Copy to: 1. �नधा�रतीक�/Assessee 2. Assessing Officer 3. आयकर आयु�त (अपील)/CIT(A) 4. आयकर आयु�त/CIT 5. �वभागीय ��त�न�ध/DR 6. गाड� फाईल/GF