The judgment of the court was delivered by
Tarun Agarwala J.-This appeal relates to the assessment year 1983- 84. The assessee is a public limited company engaged in the manufacture and sale of synthetic yarn and cement. It also has a subsidiary company under the name of J. K. Satoh Agricultural Machines Ltd. This subsidiary company availed of credit facilities, term loans as well as working capital from various financial institutions. This subsidiary company fared badly in its business and incurred heavy losses as a result, it became a defaulter in paying its debts. The assessee was also a guarantor to the loans taken by the subsidiary company for the purpose of protecting its own business interest. Since the subsidiary company could not adhere to the repayment of its liabilities, the assessee, in order to discharge its legal obligations repaid the instalments of loan to the financial institutions and banks on behalf of the subsidiary company and debited the same to their account. According to the assessee, such repayment of the loan instalment on behalf of the subsidiary company became necessary in order to protect the assessee's own business interest. As a result of making the payments, a debit balance of Rs. 61 lakhs stood in the name of the subsidiary company in the books of the account of the appellant. The debit balance was covered by the retained profits of the assessee during the period 1978-81.
In the first round of the assessment proceedings, the Assessing Officer made a disallowance of interest and also disallowed the expenses claimed towards guarantee commission. This was set aside by the appellate authority in appeal filed by the assessee and the matter was remitted for reconsideration to the Assessing Officer.
The Assessing Officer, while completing the assessment, again made a disallowance of Rs. 9,54,000. The Assessing Officer found that out of Rs. 61 lakhs only Rs. 8 lakhs was paid by the company to the financial institution and, therefore, was eligible for deduction of interest on the amount of Rs. 8 lakhs under section 36(1)(iii) of the Income-tax Act, 1961 (hereinafter referred to as "the Act"). The Assessing Officer held that the balance amount of Rs. 53 lakhs did not qualify for deduction of interest. The assessee also claimed the expenses towards guarantee commission as a revenue expenditure. The assessee had to furnish bank guarantee for the purpose of carrying out its business activities. For issuing such bank guarantees the bank had charged a commission and such commission was claimed as a revenue expenditure. The Assessing Officer disallowed this expenditure towards revenue expenditure contending that it was a capital expenditure.
The assessee, being aggrieved, filed an appeal, which was allowed and the plea of the assessee was accepted. The appellate authority found that the assessee had funds of its own in addition to the borrowed funds from the bank and that the loans were given to the subsidiary company under compulsion to the financial institution in order to protect the assessee's own business interest. The appellate authority found that the retained profits of the company were to the tune of Rs. 1,362 lakhs till the accounting year 1983-84 which covered the amount advanced to the subsidiary company and, therefore, found that interest on the said loan was to be given the necessary deduction under section 36(1)(iii) of the Act. The appellate authority found that any expenditure incurred by the assessee in an earning concern on deferred payment of the assets acquired is a revenue expenditure and, therefore, necessary deductions have to be allowed.
The Department, being aggrieved, filed an appeal before the Income-tax Tribunal, which was allowed and the order of the Commissioner of Income-tax (Appeals) was set aside and the order of the Assessing Officer was restored. The Tribunal set aside the finding on the issue of interest-free advance on the ground that the assessee could not establish that it had sufficient profits available for payment as advance to its subsidiary company and, consequently, since the issue of availability of funds out of the profits from business stood uncorroborated, the order of the Commissioner of Income-tax deleting the addition of Rs. 9,54,000 being disallowance on account proportional interest-free loans could not be entertained. On the issue of disallowance of the guarantee commission, the Tribunal held that generating sets were imported from the USSR and that the purchase of the generating sets was for the purpose of the assets and, therefore, any expenditure incurred in acquiring any asset was a capital expenditure and not a revenue expenditure.
The assessee, being aggrieved by the Tribunal, has filed the present appeal under section 260A of the Income-tax Act, 1961, which was admitted on the following substantial question of law :
"(1) Whether, on a true and correct interpretation of the provisions contained in section 36(1)(iii), the Tribunal was legally correct in upholding the disallowance of interest amounting to Rs. 9,54,000 as attributable to the debit balances in the account of J. K. Satoh Agri cultural Machines Ltd. even through such debits had appeared in the said account only on account of business purposes of the assessee- company ?
(2) Whether, on the facts and in the circumstances of the case, par ticularly that the bank guarantee commission was paid by the asses see as a going concern, for import of generating sets, the Income-tax Appellate Tribunal was legally correct in holding that the expenditure was of the nature of capital expenditure, not allowable as deduction ?
(3) Whether the Tribunal was legally correct and justified in revers ing the decision of the first appellate authority on the issue of admis sibility of bank guarantee commission amounting to Rs. 5,49,822 even though, the issue was squarely covered by the decision of the apex court in the case of Addl. CIT v. Akkamamba Textiles Ltd. reported in [1997] 227 ITR 464 (SC) and in the case of CIT v. Sivakami Mills Ltd. [1997] 227 ITR 465 (SC) ?"
We have heard Sri R. S. Agarwal, the learned counsel for the appellant and Sri R. K. Upadhyay, the learned counsel for the Revenue.
Deductions has been claimed under section 36(1)(iii) of the Act. For facility, the said provision is extracted hereunder :
"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-. . .
(iii) the amount of the interest paid in respect of capital borrowed for the purposes of the business or profession."
The aforesaid provision deals with the deduction on the profit of interest paid in respect of capital borrowed for the purposes of business or profession. It would be found from clause (iii) of sub-section (1) of section 36 of the Act that the three conditions must be established by an assessee for getting the benefit under the aforesaid clause, namely :-
(1) interest should have been payable ;
(2) there should be a borrowing, and
(3) capital must have been borrowed or taken for business purposes.
If the capital borrowed is not utilised for the purposes of the business, the assessee will not be entitled to deduction under this clause. In case, after having borrowed the capital for business purposes, the firm gives the same to its partners for their personal use or utilisation, the firm would not be entitled to claim deduction on the amount diverted for utilisation for other purposes or by other persons.
In Madhav Prasad Jatia v. CIT [1979] 118 ITR 200 (SC) the Supreme Court held that the expression "for the purpose of business" occurring under section 36(1)(iii) of the Act is wider in scope than the expression "for the purpose of earning income profits of gains". The Supreme Court, after analysing the provisions of section 36(1)(iii) of the Act, held that where a holding company has a deep interest in its subsidiary company and advances money to the subsidiary company and the same is used by the subsidiary company for its business purposes, the assessee would be entitled to deduction of interest on its borrowed loans.
In the instant case, we find that the assessee had deep business interest in the existence of its subsidiary company and discharge its legal obligation by repaying the instalments of loan to the financial institutions. Such loans were given for the purpose of business. It is not even the Department's case that the amount given by the assessee was not for business purposes or that the capital borrowed was not utilised for the purpose of business.
In the light of the aforesaid, we are of the opinion that the assessee was entitled to deduction of interest amounting to Rs. 9,54,000 on the loan given to its subsidiary company. The Tribunal was not justified in disallowing the interest. Question No. 1 is answered accordingly.
In CIT v. Sivakami Mills Ltd. [1997] 227 ITR 465 (SC) the assessee- company for the purpose of its business, purchased some item of machinery on deferred payments in terms under which an immediate payment had to be made and the balance amount was to be paid in instalments. For assuring due payment of the instalments, the assessee obtained a guarantee executed by a bank in favour of the sellers, as a result of which, the bank charged a commission. The assessee claimed deduction of the amount of commission as a revenue expenditure. The High Court held that the guarantee commission paid to the bank by the assessee-company was a revenue expenditure and was an allowable deduction while computing the total income of the assessee. The said decision was affirmed by the Supreme Court.
The controversy involved in the present case is similar, if not identical to the said controversy. We are also of the opinion that the expenditure incurred by the assessee in obtaining an asset on deferred payment basis is a revenue expenditure and that the Tribunal committed an error in holding such expenditure to be a capital expenditure.
In the light of the aforesaid, the questions of law framed as aforesaid are allowed in favour of the assessee. The order of the Tribunal cannot be sustained and is quashed. The appeal is allowed.