CHOLAMANDALAM MS GENERAL INSURANCE COMPANY LIMITED,CHENNAI vs. ACIT, CHENNAI

आदेश / O R D E R PER G. PAVAN KUMAR, JUDICIAL MEMBER:

ITA No. 1483/Mds/2015 :- 2 -:

The assessee has raised grounds in respect of two 2. disallowance by the Assessing Officer (i) Disallowance of pre-operative expenses (ii) Depreciation on building.

The Brief facts of the case are that the assessee is in the 3. business of general insurance and was incorporated on 2nd November, 2001 and obtained IRDA license on 15th July, 2002 and filed Return of income declaring loss of �2,75,21,424/- on 27.11.2013.

The return of income was processed u/s.143(1) of the Act and subsequently, the case was taken up for scrutiny and notice u/s.143(2) of the Act was issued. In compliance to the notice, the assessee’s Authorised Representative appeared and filed details as called for.

The Assessing Officer after verifying the submissions dealt with the issue on pre-operative expenses . The ld. Authorised Representative explained that business of General Insurance computation will be based on special provisions applicable u/s.44 of the Act and Part B of Schedule I of Income Tax Act. Computation of business other than life insurance will be made as per IRDA norms. The assessee claimed an expenditure of �2,86,22,000/- as a pre-operative expenses as per the Annual accounts submitted before the insurance authorities and such expenditure has been incurred other than related to insurance

ITA No. 1483/Mds/2015 :- 3 -: business. But for the purpose of Income Tax expenditure deduction was claimed. The pre-operative expenses consists of expenditure incurred for the commencement of the business till the actual business operations and also some of the expenditure can be claimed separately and explained the methodogly of calculation of income of insurance business and also type of expenditure incurred and in compliance to the show cause notice, the assessee filed details of company incorporation and expenditure, and observed in Assessing Officer order at Para 1.4 as under:-

‘’The Company was incorporated in November, 2001. The first insurance policy was booked only in Oct. 2002 on account of licensing /product approvals from IRDA. In the books, the expenditure incurred till the date of license (July 15, 2002) was aggregated amount to �2,79,62,000/- an claimed in the A.Y. 2003-2004. The business of the company was ready legally in Nov. 2001 itself. Therefore, the expenditure incurred from the time the business of the company was ready is an allowable deduction. The company had written off the entire expenditure incurred prior to the issue of the first policy, in the year in which first policy was issued. As the expenditure is of revenue nature the same is allowable.

Without prejudice to the same out of the expenditure claimed as revenue, �1,41,77,000/- represents cost of staff on deputation and recruitment and training given to employees for customizing and implementing the software. This expenditure should be added to the cost of acquisition and implementation of software and accordingly, depreciation be granted on the same. And the balance expenditure incurred during the previous year relevant to the A.Y. 2003-04 should be allowed as deduction ‘’.

ITA No. 1483/Mds/2015 :- 4 -:

The Assessing Officer on verification of such information has made a finding that the assessee is providing a misleading information in order to claim higher expenditure and also higher depreciation. To counter comments of the Assessing Officer, the assessee has filed detailed reply about stages of incurring of expenditure referred at para 1.7 of the assessment order.

"The preoperative expenses claimed by the company has been towards expenses incurred from the date of incorporation (2.11.01) to the date of final approval given by IRDA (R3 License) To start the Insurance business there are three stages of licensing issued by IRDA via R1, R2 & R3

I.R1 Stage: This is the first application to be made by the company to IRDA proposing to do Insurance Business. The details sought in R1 essentially involves background of the promoting company and the promoters, the credentials of the board of directors and senior executives, the organization including 5 structure, summary of financial years projections, key ratios and the financials of the promoter company. We had obtained the R1 clearance from IRDA on 28.12.01.

the same it is permitted to issue policies and collect premium from its customers. We had obtained the R3 clearance on 14.7.02 The process of obtaining the various approval norm s prescribed by IRDA requires extensive analysis of data and market research, for which We had to incur expenditure on the following heads : 1.Recruitment and training of employees 2.Salary and staff welfare of the employees 3.Travel and related expenses of employees 4.Rent , power and related office expenses 5.Professional fees paid to consultants’’.

The Assessing Officer considered the expenditure was incurred prior to commencement of Business and such expenditure is capital in nature and disallowed the claim and made an addition. Aggrieved by the order of the Assessing Officer, the assessee preferred appeal before the Commissioner of Income Tax (Appeals).

Income Tax (Appeals) , the assessee filed an appeal before the Tribunal.

Before the Tribunal, the assessee has argued on the ground 5. of claim of pre-operative expenditure and raised additional ground in respect to expenditure incurred at RI, R2 and R3 Stages, if total pre- operative expenditure is not allowable without prejudice to the ground it should be allowed individually under different sections of Income Tax Act. The assessee reiterated his submissions that the company was incorporated on 01.11.2011 and obtained license from IRDA on 14.07.2002 and the assessee has incurred expenditure to obtain license to carry on general business in three stages RI, R2 & R3 stages and at RI stage expenditure incurred at �44.36 lakhs, R2 stage expenditure incurred at �88.76 lakhs and R3 stage expenditure incurred at �108.10 lakhs total aggregating to �236.22 lakhs and expenditure incurred includes software development cost and fees paid to Register of Companies to increase authorized capital. The ld. AR submitted that expenditure has been incurred wholly and exclusively for the purpose of business and no personal expenses has been claimed. Insurance company has complied with business expediency through proper maintenance of books of accounts and statutory

ITA No. 1483/Mds/2015 :- 7 -: records and drew attention to the chart showing different type of expenditure incurred in three stages and there is no dispute about genuiness except the nature of expenditure and to support his argument relied on the judicial decisions and pleaded for allowing the expenditure.

We heard the rival submissions of both the parties, perused 7. the material on record and also judicial decisions cited. The assessee company being in General Insurance Company had obtained license from IRDA in July 2002. The norms of IRDA are standard and regulatory body formed under the statute. The expenditure is incurred in compliance to the guidelines of IRDA which regulates the operation of insurance business. The Assessing Officer made disallowance with finding that expenditure cannot be allowed u/sec 37(1) of the Act and treated as capital in nature. The expenditure incurred by the assessee company in stages of R1, R2, and R3, the incorporation of the company is 02.11.2001 and obtained licence from IRDA in July, 2002 after completion of stages of expenditure of R1 and R2 only. But the assessee cannot commence the business at stage R1

ITA No. 1483/Mds/2015 :- 8 -: and R2 unless approved from IRDA at R3 stage is obtained. The assessee company cannot be said to have commenced Business unless ready for entry into insurance contracts commercially. We are of the opinion that the ld.CIT(A) has verified the evidence on record vis-a-vis the explanations made by the assessee. We do not see any reason to interfere with the order of the ld.CIT(A) and we upheld the order of the Commissioner of Income Tax (Appeals) on this issue and dismiss the ground of the assessee.

The Assessing Officer disallowed deprecation of building. 8.

The brief facts of the issue is as under:-

The assessee has purchased a flat at Mumbai for an amount of �1,35,78,675/- including cost of registration and other incidental expenses and claimed deprecation at the rate of 10%. In the hearing proceedings, the ld. Authorised Representative produced purchase agreement and bifurcation of purchase consideration. The Assessing Officer found that the cost of flat includes �1,00,000/- and �3,12,500/- refundable deposits paid to promoter of the flat and excluded from the value of building. Further calculated cost of acquisition of flat at �6,800/- for the area and measuring 1785 sq.ft and observed that the cost of flat also includes land value and deprecation on land is not ITA No. 1483/Mds/2015 :- 9 -: allowed and calculated construction cost and arrived at �750/- out of total cost per sq.ft �6,800/- and concluded that balance pertaining to land component and erred in bifurcating land and building and allowed depreciation on the building cost, the assessee filed explanation by letter observed at para No.2.4 of order as under:-

"The amount of �1,35,79,000/-- being the cost of fixed asset on which deprecation is claimed wholly pertains to only the cost of building as per the Articles of Agreement dtd.25.10.02, a copy of which is submitted to your' office. We have reproduced the relevant clause in this regard for your immediate reference. Clause ‘’O’’ of the Articles of Agreement for the purchase of the Unit Premises reads as "The promoter vendor is selling on what is known as ownership basis, under the provisions of the Maharashtra Ownership Flats ( Regulation of the Promotion of Construction, Sale, Management and Transfer) Act, 1963 (hereafter referred a 'MOF Ad') units in the said building to the end and intent that after the construction of the said building is completed and the Occupation Certificate in respect thereof is obtained by the Promoter / Vendor from MCGM the said building would be submitted as per the provisions of MOF act to the provisions of the Maharashtra Apartment Ownership Act, 1970 as aforesaid.

Accordingly the Promoter/ vendor had agreed to earmark, allot and sell the confirming party, office premises, being unit no.1 on the sixth floor of the said building admeasuring 165.83 sq.mts. equivalent to 1785 sq.ft. for the consideration and on the terms and conditions recorded in the letter of intent. From the above, it is very clear that the promoter / vendor sold only the unit under ownership basis to the purchaser i.e. the company and the entire cost is attributable to the building only and not land’’.

ITA No. 1483/Mds/2015 :- 10 -:

The assessee’s contention that the total amount represents cost of acquisition paid to the promoter and not as holder of equity share in Private Limited Company which hold the land on lease. On perusal of the agreement it was found in clause (3) of article 6 of the agreement observed at para 2.5 Assessing Officer is as under:-

" The lease in respect of land underneath. the said building forming part of the said plot described in the First Schedule hereunder written (to be granted by the promoter / vendor in accordance with the terms and conditions contained in this agreement) will be in favour of a private limited company and the members of such private limited company shall only be different unit purchasers who own units in the said building and each of such unit purchasers shall hold 1 (one) eq.share of such private limited company, of the face value of Rs.l00/- ( Rupees One Hindered Only) per unit acquired by them and this share will be assignable and transferable only alongside and incidental to the sale and conveyance of the unit acquired by them and not separately, since such share of the private limited company will be married to and will be an appendage of or appurtenant to the holding by the Owner… "

The ld. Authorised Representative explained that total consideration paid to the promoter in respect of purchase of flat is �1,35,78,675/- and the assessee as a flat owner allotted one equity share of Private Limited Company in respect of land holding and such share is assignable and transferable alongwith the transfer of flat. But the Assessing Officer presumed that assessee has paid heavy

ITA No. 1483/Mds/2015 :- 11 -: consideration to Private Limited Company to hold lease right on the land and concluded on suspicion that the value of the land is equal to acquisition of the share and no depreciation is allowed and completed assessment by allowing depreciation on proportionate cost of building and disallowed value claimed by the assessee. Aggrieved by the order of the Assessing Officer, the assessee filed an appeal before the Commissioner of Income Tax (Appeals).

In the appellate proceedings, the ld. Commissioner of 9.

Income Tax (Appeals) relied on the finding of the Assessing Officer in respect of segregation and accepted the action of the Assessing Officer partially the ld. Authorised Representative argued that the building and land cannot be segregated for the purpose of depreciation as the assessee is not holding individual unit of land but UDS as per the agreement and the assessee can only have interest in usage of land.

Before the Commissioner of Income Tax (Appeals) the assessee filed written submissions and also agreement copies of land relied on various judicial decisions. The Commissioner of Income Tax (Appeals) called the remand report and the assessee has filed objection/reply to the remand report. The Commissioner of Income Tax (Appeals) on submissions of the ld. Authorised Representative and material filed before the Assessing Officer held that the action of the Assessing

ITA No. 1483/Mds/2015 :- 12 -:

Officer incorrect as the land beneath the building can never be identifiable individually in owner name and such undivided share of land limited to area of flat. The ld. Commissioner of Income Tax (Appeals) has made a discretion in the logic applied by the Assessing Officer and relied on the various factual working and by concluded that the estimation of value of land by the Assessing Officer is on higher side and no yardstick was followed and directed the Assessing Officer to allow deprecation on 2/3rd value of acquisition and disallow deprecation on 1/3rd value of the property and partly allowed the appeal. Aggrieved by the order of the CIT(A) the assessee has filed an appeal before the Tribunal.

per sqft and the depreciation allowed on such reduced value is a very low and not acceptable in any business proposition as composite rate of flat considered for calculation and the ld.Commissioner of Income Tax (Appeals) has rightly considered that the approach of the

ITA No. 1483/Mds/2015 :- 13 -:

Assessing Officer is illogical. The ld.AR has emphasized that the land cannot be differentiated separately with the flat area and each are inter dependent. The cost of flat include the UDS value so it is not a prudent practice to break the composite rate and deprive deprecation.

The land was held on lease by the Private Limited Company and the consideration was paid only in respect of composite value of flat and assessee company has no independent right over the land as the terms of agreement. The assessee company has been allotted share in Private Limited Company to the extent of individend share of land of flat. Hence bifurcation based on the land cost and relating value of share does not make sense and assessee is deprived of deprecation.

The ld. Authorised Representative drew attention to the paper book filed and referred to page no.9 containing agreement between M/s.BPM Industries Private Ltd and the assessee company where terms and conditions were discussed. The terms are very clear on acquisition which is not disputed and the Authorised Representative prayed for allowing the deprecation on total cost of flat.

On the other hand, the ld. Departmental Representative 11. relied on the orders of the lower authorities and prayed for dismissal of appeal

ITA No. 1483/Mds/2015 :- 14 -:

adopted. Therefore, we are not concurring with the findings of the Commissioner of Income Tax (Appeals) in granting partial relief and we set aside the order of the Commissioner of Income Tax (Appeals) on this ground and direct the Assessing Officer to allow depreciation on the composite value of cost of flat excluding the refundable deposit. Accordingly, the assessees ground is partly allowed.

In the result, the appeal of the assessee in ITA 13. No.1483/Mds/2015 is partly allowed. Order pronounced on Thursday, the 28th day of January, 2016, at Chennai.