VIATON ENERGY PRIVATE LIMITED,MUMBAI vs. ITO, WARD-17(4), HYD, HYDERABAD

Brief facts of the case are that the assessee company was incorporated to establish a 10 MW biomass plant, that uses bio fuels, such as leaves, dried grass and agricultural waste for producing energy with the aim of generation and distribution of power. It filed its return of income for the assessment year 2012-13 on 29/09/2012 admitting loss of Rs. 1,46,29,858/-.

During the course of assessment proceedings, learned Assessing Officer noticed that the assessee borrowed a sum of Rs. 24.32 crores and kept that amount for an interim period in fixed deposit and earned interest of Rs. 1,43,75,531/-. During the year, assessee paid interest of Rs. 1,20,59,797/-. Further, the assessee claimed Rs. 1,85,64,121/- towards interest and financial charges. Assessee also claimed administrative and statutory expenses to the tune of Rs. 98,60,717/-. While determining the income of the assessee by way of order dated 31/03/2015 under section 143(3) of the Income Tax Act, 1961 (‘the Act’), the learned Assessing Officer brought to tax the interest earned to the tune of Rs. 1,43,75,531/- as income from other sources, disallowed the interest and financial charges to the tune of Rs. 1,85,64,121/- and also the administrative charges claimed at Rs. 98,60,717/-.

Aggrieved, assessee preferred appeal before the learned CIT(A) and argued that earning of interest by investing the same in fixed deposits is inextricably linked to the setting up of plant and, therefore, it shall go to reduce the project cost and cannot be brought to tax under the head income from other sources. Assessee placed reliance on the decision of the Tribunal in the case of Adani Power Ltd., 61 taxmann.com 355, Prayagraj Power Generation Company Ltd., 158 ITR 909, Indian Oil Panipat Power Consortium Ltd. 315 ITR 225 and also on the decision of the Hon’ble Apex Court in the case of Bokaro Steel Ltd., 236 ITR 315.

In respect of the disallowance of the interest and financial charges, the argument of the assessee was that the assessee borrowed the money and earned the interest from the fund not immediately required and, therefore, the interest cannot be brought to tax as income from other sources, without giving set-off of the interest amount paid on the long term borrowing availed by the assessee. Reliance was placed on the decision in the case of Vodaphone South Ltd., 378 ITR 410 and Punjab Stainless Steel Ind. 162 Taxman 9.

On the aspect of disallowance of the administrative expenses, plea of the assessee was that it already commenced the business by placing the order of its plant and machinery and started installing the electricity plants and, therefore, such an expense should have been allowed. Reliance was placed on the decision in the case of Hughes Escort Communication 311 ITR 253 and Saurashtra Cement and Chemical Industries Ltd. 91 ITR 170.

Learned CIT(A) elaborately considered the submissions on all these aspects. He considered the decision of the Hon'ble Supreme Court in the case of Tuticorin Alkali Chemicals and Fertilizers Ltd., vs. CIT (1997) 227 ITR 172 (SC), Bokaro Steel Ltd., (supra), Bongaigaon Refinery and Petro Chemicals Ltd., 251 ITR 329, Karnal Co-Operative Sugar Mills 243 ITR 2 (SC) and so many other decisions relevant on the issue and reached a conclusion that the expression ‘directly and inextricably connected’ does not include parking the funds in fixed deposits to earn the interest. According to him, interest on idle or surplus funds is certainly income, not directly and inextricably connected, and since the business operations of the assessee have not commenced, it cannot be taken as business income

On the second aspect, learned CIT(A) recorded that the interest expense incurred by the assessee has no direct nexus with the earning of interest by way of fixed deposits, because the amount was not borrowed with the object of earning interest by making fixed deposits nor was such expense incurred to preserve or maintain the source and, therefore, the statutory requirement under section 57 of the Act, which says that the expenditure should have been incurred for the purpose of making or earning such income and the deduction is to be made in respect of expenditure laid out or expended wholly and exclusively for the purpose of making or earning such income, was not fulfilled.

Turning to the other ground relating to the administrative expenses, learned CIT(A) was of the opinion that unless the plant and machinery is installed and the assessee is in a position to produce energy, it cannot be said that the business has been set up and for this purpose, learned CIT(A) placed reliance on the decision of the Hon’ble Apex Court in the case of Ramaraju Surgical Cotton Mills Ltd., 63 ITR 478. Further, learned CIT(A) observed that acquiring land, placing orders for machinery and raw material are merely operations for setting up of business, but it is only when the business is put to such a shape and starts functioning as a manufacturing or a business organization, it can be said to have been set up. Hence, holding that the business of the assessee was not set up, learned CIT(A) rejected the administrative expenses also.

Assessee is, therefore, before us in this appeal firstly contending that the business of the assessee was set up and ready to be commenced during the year under consideration, because of various activities undertook by the assessee between 07/01/2009 and 18/01/2012 including incorporation of company and issuing various purchase orders for construction of various equipment and machinery for the purpose of power project.

While placing reliance on the decisions reported in the case of Karnal Co-Operative Sugar Mills, Indian Oil Panipat Power Consortium Ltd. (supra) and Facor Power Ltd. 380 ITR 474, he submitted that the intention to deposit the loan amount with the bank was to earn income which would help in over all reducing the cost of project and, therefore, earning of such interest income is inextricably linked with the business of the assessee and, therefore, the decision of the Hon’ble Supreme Court in the case of Tuticorin Alkali Chemicals and Fertilizers Ltd., (supra) is not applicable. He referred to the decision of the in the case of Shree Rama Multi Tech Ltd. (2018) 92 taxmann.com 363 (SC), Indian Oil Panipat Power Consortium Ltd. and Facor Power Ltd. (supra), in support of his contention that when once the money was borrowed for the purpose of purchase of machinery and other activities connected with the setup of the business, then, if the temporary parking of the such borrowed amount accrues any interest, such interest shall go to reduce the project cost, but not to be taxable under the head income from other sources. Assessee also placed reliance on the decision of the Co-ordinate Bench of the Tribunal in the case of KSK Wind Energy Halagali Benchi Pvt. Ltd., and batch in and batch, by order dated 30/11/2017.

Nextly, he contended that inasmuch as the business of the assessee was set up in the relevant previous year, even in the absence of commencement of business, the assessee is entitled to seek netting of the interest and financial charges against the income earned, and also to claim the deduction of the administrative charges.

Per contra, learned DR vehemently relied upon the impugned order and submitted that as laid down by the Hon’ble Gujarat High Court in the case of Sarabhai Sons Pvt. Ltd., 90 ITR 318, mere acquiring the land or placing the order for machinery and raw materials, does not amount to the setup of business, but such activities are merely operation for setting up of business, and in order to say that a business is set up, it must be in a position to commence functioning as a manufacturing or business organization. According to the learned DR, all the activities are referred to by the learned AR are only operation for setting up of business, because at no point of time in the relevant previous year, the assessee was in a position to produce energy, whether or not commercial activities are started. He, therefore, submitted that the business of the assessee was not set up and, therefore, the argument of the assessee on this aspect has to be rejected. Learned DR placed reliance on the decision of Co-ordinate Bench of the Tribunal in the case of Thermal Powertech Corporation India Ltd., (2017) 81 taxmann.com 168.

Insofar as the interest earned on the fixed deposits, learned DR submitted that the decision of the Hon’ble Apex Court in the case of Tuticorin Alkali Chemicals and Fertilizers Ltd., (supra) holds the field and such a decision was followed by the Hon’ble jurisdictional High Court in the case of Raasi Cement Ltd. 232 ITR 554 under identical circumstances, and,

We have gone through the record in the light of the submissions made on either side. Insofar as aspect of set up of business is concerned, learned AR submitted that various activities undertook by the assessee between 2009 and 2011 would amount to set up of business. For the sake of detailedness, we refer to such activities as enumerated by the learned AR. Such activities are assesees’ incorporation, applying for operating biomass power project by the parent company, acquisition of land, obtaining offer letter from the vendors for supply, erection and commissioning of boiler for power project, recruitment of employees, acquisition of guest house, submissions of detailed project report for approval from the Government of Punjab, allocation of biomass power project to the assessee under phase-III in Mansa Tehsil, Punjab, issuance of permission and NOC from Forest department, permission for change of use of land for industrial use, sanction of bank loan, approval of site for power project by Government of Punjab, agreement for implementation of power project with Punjab Energy Development Authority, placing purchase order for installation at weighment bridge, and issuance of letter of intent to various parting for construction of various equipment and machineries, forming part of power project etc. According to the learned

As could be seen from the above enumeration of events, at no point of time between 2009 and 2011, the assessee acquired the capacity to produce power. All the activities enumerated are the operations in the process of setting up of the business, but certainly such operations did not take the assessee to the shape to commence production of power. By no stretch of imagination could it be said that with last act of the issuance of letter of intent on 18/01/2012 to various parties for construction of various equipment and machinery, the assessee set up the business. Such construction activity must be completed and the plant and machinery must be in place and the assessee must ascertain that it is in a position to commence the production of energy. Then only it can be said that the assessee set up business, though not commenced the commercial operations or commenced the business. We, therefore, find it difficult to agree with the learned AR that the assessee set up business in the relevant previous year.

In this backdrop, now we shall proceed to deal with the contentions of the assessee in respect of treating the interest earned as income from other sources. At the outset it must be stated that the very stand of the assessee in this case is that for business purposes, assessee borrowed amounts, but till the time such funds were to be deployed in business, with an intention to earn income to reduce the overall cost of the project, assessee kept such idle funds in fixed deposits and earned income. To this extent absolutely there is no dispute. The bone of contention is whether such parking of idle funds in fixed deposits to earn interest with an intention to reduce the overall project cost can be taken as an activity inextricably linked with the business of the assessee. Assessee placed reliance on the decisions of Bokaro Steel Ltd., Indian Oil Panipat Power Consortium Ltd., Facor Power Ltd., Shree Rama Multi Tech Ltd. and KSK Wind Energy Halagali Benchi Pvt. Ltd., (supra), ; whereas the Revenue is placing reliance on the decisions of Tuticorin Alkali Chemicals and Fertilizers Ltd., and Thermal Powertech Corporation India Ltd. (supra).

In the case of Tuticorin Alkali Chemicals and Fertilizers Ltd. (supra), Hon’ble Supreme Court held that interest on borrowed funds is taxable as income from other sources and cannot be set-off against the interest payable for the project cost. In the case of Bokaro Steel Ltd. (supra) also, the learned Assessing Officer brought to tax the interest income received by the assessee on short term deposits made with banks out of the amounts borrowed by it for business purpose but were not immediately required. The learned Assessing Officer brough to tax certain other receipts of the assessee before the business was set up, including the interest earned on deposit of borrowed funds. Assessee did not carry in appeal the addition of such interest. In such situation, Hon’ble Supreme Court affirmed its view in the case of Tuticorin Alkali Chemicals and Fertilizers Ltd. (supra), observing that though such an aspect was not challenged by the assessee, in any case such question was concluded in the case of Tuticorin Alkali Chemicals and Fertilizers Ltd. (supra). Hon'ble court specifically dealt with the other receipts like income received from contractors towards hire charges for quarters, interest received for advance payments made to contractors, income towards hire charges received from contractors against the letting of plant and machinery, royalty received from the contractors towards excavation of material and Hindustan Steel and held that all these activities have inextricable link with the business activities of the assessee and, therefore, are not to be brought to tax under the head income from other sources. It is pertinent to note that in the case of Bokaro Steel Ltd. (supra), the Hon’ble Supreme Court reiterated the decision in the case of Tuticorin Alkali Chemicals and Fertilizers Ltd. (supra) in respect of the treatment of interest earned on short term deposits made out of borrowed funds during the period prior to the commencement of business of the assessee.

Further it could be seen that in the case of Karnal Co-Operative Sugar Mills (supra), the Hon’ble Supreme Court held that the interest accrued on the money deposited with a bank to obtain a letter of credit for the purchase of machinery required for setting up the plant of the assessee in terms of agreement with the supplier cannot be treated as income from other sources, because the interest was emanating from a transaction which was inextricably linked. So also, in the case of Karnataka Power Corporation 247 ITR 268, the receipt was relating to the hire charges paid by contractors was dealt with in the light of the ratio laid in Bokaro Steel Ltd. (supra). In the case of Bongaigaon Refinery and Petro Chemicals Ltd. (supra) also, the receipts in dispute before the Hon’ble Supreme Court were in respect of the interest income derived by the assessee during its formative period and also the income from house property, guest house, charges for equipment and recoveries from contractors on account of water and electricity supply. In unequivocal terms, the Hon’ble Supreme Court while referring to the decision in the case of Tuticorin Alkali Chemicals and Fertilizers Ltd. (supra) approved the Hon’ble High Court that the interest income derived by the assessee during its formative period was taxable income, but the other receipts were excluded from taxation in terms of Bokaro Steel Ltd. (supra). It is pertinent to note that in Bokaro Steel Ltd. as well as Bongaigaon Refinery and Petro Chemicals Ltd. (supra), the Hon’ble Supreme Court specifically held that interest income derived by the assessee during its formative period was taxable income whereas the other receipts, which emanate from the activities inextricably linked to its business are not taxable. This position of law remains unchanged.

An identical situation has arisen in the case of Raasi Cement Ltd., (supra), wherein the treatment of interest earned on the idle/surplus funds in short term deposits out of the borrowed funds for business purpose had fallen for consideration. Hon’ble High Court held that such income represents the interest earned on surplus funds deposited in the banks during the installation of the company, the status of the company before the commencement of the business, it has been held in Tuticorin Alkali Chemicals & Fertilizers Ltd. (supra) that such interest has to be separately treated as income and cannot be taken as part of the capital structure.

In all the decisions relied upon by the assessee, namely, Shree Rama Multi Tech Ltd., Indian Oil Panipat Power Consortium Ltd. and Facor Power Ltd. (supra), the share capital raised for the purpose of acquiring plant and machinery was to be deposited in bank due to various reasons like the statutory requirement, or title dispute of the property or towards margin money for procurement of various capital goods, and such deposits yielded interest and such interest was held to be accruing out of the activities inextricably linked to the business of the assessee. It could be seen from these decisions, the deposits were not made with the sole intention of earning interest to reduce the overall cost of the project, but accrual of interest is only a quirk of fate or secondary in nature. The facts in these cases fall in the category of Bokaro Steel Ltd., Karnal Co-Operative Sugar Mills, Bongaigaon Refinery and Petro Chemicals Ltd. (supra) etc., but not in the stream of Tuticorin Alkali Chemicals and Fertilizers Ltd., (supra).

It is, therefore, clear that insofar as the interest on the short-term deposits out of the borrowed amount for the business purpose has to be separately treated as income from other sources and cannot be taken as part of the capital structure to reduce the overall project cost. Further, the assessee borrowed the funds for the purpose of business, namely, setting up of plant and machinery etc., but not certainly to make short term deposits and to earn interest. In that sense, the purpose of borrowing funds has no nexus with the earning of interest and, therefore, on that score, assessee cannot say that the interest expense is wholly and exclusively for the purpose of earning interest so that set-off of earned interest against the paid interest could be sought. As rightly held by the learned CIT(A) such an expense is not incurred either for preserving or maintaining the source, and the intention of making short term deposit out of the borrowed amounts is totally foreign to the business objects of the assessee.

Basing on this analogy, we hold that the action of the Revenue authorities in bringing the interest earned on short term deposits made out of borrowed funds during the period prior to the commencement of business of the assessee, to tax under the head income from other

In the result, appeal of the assessee is dismissed.