summary: The liability was discharged by way of issuance of shares. When the assessee issues shares the assessee does not incur any expenditure as the assessee is not to make any payment legally towards shares issued. The shares cannot be equated with debentures, which is purely by way of loan and the same are required to be repaid on maturity. However, in respect of shares the company is under no obligation to make any payment in respect of such shares where share holders accept payment of pro rata dividend when such dividend is declared. Thus by issuance of shares the assessee cannot be said to have incurred any expenditure and hence issuance of shares in lieu of interest liability cannot be considered to have been payment towards expenditure. Accordingly the interest liability discharged is not an allowable expenditure.
IN THE INCOME TAX APPELLATE TRIBUNAL,
KOLKATA ‘A’ BENCH, KOLKATA
Before Shri Pramod Kumar (Accountant Member),
and Shri George Mathan (Judicial Member)
I.T.A. No.: 1069/ Kol. / 2010
Assessment year : 2005-06
Income Tax Officer,……………………….…………. Appellant
M/s. Glittek Granites Ltd,……………….......……… Respondent
O R D E R
Per Pramod Kumar:
1. By way of this appeal, the Assessing Officer has called into question correctness of Commissioner of Income Tax (Appeals)’s order dated 9th February, 2010, in the matter of assessment u/s. 143(3) of the Income Tax Act, 1961 for the assessment year 2005-06, on the following grounds :-
(1) Ld. CIT(A) erred on law and facts by deleting addition of Rs.68,18,318/- u/s. 43B of the I.T. Act.
(2) Ld. CIT(A) erred on law and facts by stating that conversion of interest payable in equity shares can be treated as actual payment u/s. 43B.
2. The issue in appeal lies in a narrow compass of material facts. In the course of the assessment proceedings, the Assessing Officer noticed that while the assessee has claimed deduction of Rs.68,18,318/- in respect of interest paid to the IDBI, no such amount was actually paid though these interest dues were converted into equity shares of the assessee-company. The Assessing Officer was of the view that since “the interest of Rs.68,18,318/- was neither paid during the financial year relevant to the assessment year, nor within the due date”, the interest cannot be allowed as deduction under section 43B. Aggrieved, assessee carried the matter in appeal before the CIT(Appeals), who reversed the stand of the Assessing Officer and observed as follows :-
“I have considered the above submission of the assessee. It is seen that the provision of section 43B(e) clearly mentions that any interest payable by the assessee on loan taken from a scheduled bank can be allowed only when it is actually paid. However, as per the proviso u/s.43B deduction can be allowed in the previous year in which the liability to pay interest was incurred even if the actual payment is made before the due date of filing the return. In the case of the assessee the real question to consider is whether conversion of ‘interest payable’ into equity share can be considered as actual payment of interest or not. In this respect it may be noted that u/s.43B an Explanation 3D has been introduced by Finance Act,2006 with retrospective effect from 1.4.1997 which says that conversion of interest payable into loan or advance shall not be deemed as actual payment. It can be seen that this restriction is for conversion to loan or advance. However, in case of conversion into shares the position is little different, When the shares are allotted by a company to a shareholder it means that the company gives to the shareholder something in lieu of the share application money given by him. This something is a share in the ownership of the company. On the other hand, in case of a loan the loanee only takes the money from the lender but does not give him, anything in return.. This shows that when interest payable has been converted into equity shares of the assessee-company it means in lieu of the interest payable the assessee has given a part of the ownership of the company to the lender. Thus the payment of interest may not be in cash but it is in kind that is in terms of the equity shares of the company which have been accepted by the lending bank. It can also be seen that to the extent of interest payable converted into equity the lending bank has reduced the interest receivable from the assessee. From all this discussion it can be said that conversion of interest payable into equity shares can be treated as actual payment and it can qualify for deduction u/s.43B. It may be noted that if the deduction for interest payment by conversion into equity shares is not allowed to the assessee-company at this moment it will not be allowable at any other time which will be injustice. Hence I am of the opinion that the assessee can be allowed deduction for interest on term loan amounting to Rs.68,18,318/- and disallowance by the A.O. in this regard is deleted”.
3. Aggrieved by the relief so granted by the CIT(Appeals), the Assessing Officer is in appeal before us.
4. Learned counsel’s basic contention is that conversion of interest payable into equity is a mode of payment, and that, in the light of Hon’ble Supreme Court’s judgment in the case of Raja Mohan Raja Bahadur –vs.- CIT (66 ITR 378), transfer of approved securities should be taken as actual payment for cash. A reference is also made to Hon’ble Madras High Court’s judgment in the case of CIT –vs.- Vellore Electric Corporation Ltd. (235 ITR 289) in support of the same proposition. She has also relied upon CBDT Circular No. 7 dated 17th July, 2006 in support of the stand that such a discharge of interest liability, i.e. by way of issuance of equity capital thereof, will also be covered by the expression ‘actual payment’ for the purpose of section 43B. However, when her attention is drawn to a coordinate bench decision in the case of SRF Ltd. –vs.- DCIT (39 SOT 1), which holds that “by issuance of shares the assessee cannot be said to have incurred any expenditure and hence issuance of shares in lieu of interest liability cannot be considered to have been payment towards expenditure”, she merely reiterate her submissions. She, however, fairly admits that the said
decision of the coordinate bench has not been reversed, nor there is any other judicial precedent from a higher forum directly on the issue. Learned Departmental Representative, on the other hand, points out that all these arguments are not relevant as the issue is covered against the assessee by a direct decision of the coordinate bench in the case of SRF Ltd. (supra). He also points out that there is significant difference in discharging a debt by transferring securities held by an assessee and discharging a debt by issuing own capital. While the former, according to the learned Departmental Representative, could be treated as an expenditure inasmuch as asset of the assessee is diminished, in the later situation there is nothing being given by the assessee at all- it’s only an increase of equity capital.
5. Having regard to the rival contentions, and having perused the material on record, we find that the issue in appeal is squarely covered in favour of the Assessing Officer by a coordinate bench decision in the case of SRF Ltd. (supra) which, inter alia, observes as follows :-
“20. We have considered the rival submissions. The claim is in respect of interest on amount borrowed by the erstwhile company namely Flowmore Polyesters Ltd., which amalgamated with the appellant company during the year. There is no dispute to the fact that interest payable by the erstwhile company was not claimed and allowed in terms of section 43B(d) since the amount was not paid by the said company. In view, of the scheme of amalgamation Flowmore Polyesters Ltd. has merged into the assessee company. Therefore, if the assessee company discharges such liability of interest, it will amount to payment thereof and hence in terms of section 43B will be allowed in computing the income of that previous year in which such sum is actually paid. It is stated that the liability for payment of interest has been discharged by way of issuance of shares. As per Explanation 3C to section 43B, if any part of interest liability is converted into a loan or a borrowing, it will not amount to actual payment thereof. Explanation 3C to section 43B has been inserted with retrospective effect from 1.4.1989 and hence is applicable to the year in appeal also. Therefore, we primarily agree with the assessee if the amount is paid by the assessee, the same will be an allowable deduction. However, in the present case it is seen that the liability is discharged by way of issuance of shares and not actual payment by way of legal tender. What is allowable under section 43B is in respect of deduction otherwise allowable under this Act. The deduction allowable under the act is in respect of various sums referred to in sections 30 to 37 of the Act. Interest on any loan or borrowing is one such sum referred in section 36(i)(iii) of the Act. Therefore, for the purpose of allowability, the amount should be in the nature of expenditure. The word “expenditure” is not defined under the Act. Hon’ble Supreme Court in the case of Indian Molasses Company P. Ltd. Vs. CIT, 37 ITR 66 held that expenditure is equal to ‘expense’ and ‘expense’ is money laid out by calculation and intention though in many uses of the word this element may not be present, as when one speaks of a joke of another’s expense. But the idea of ‘spending’ in the sense of ‘paying out or away’ money is the primary meaning which is relevant. ‘Expenditure’ is thus, what is ‘paid out or away’ and is something which has gone irretrievably. Once again Hon’ble Supreme Court in the case of CIT vs. Nainital Bank Ltd., 62 ITR 638, held that in its normal meaning, the expression ‘expenditure’ denotes ‘spending’ or ‘paying out or away’, i.e. something that goes out of the coffers of the assessee. A mere liability to satisfy an obligation by an assessee is undoubtedly not ‘expenditure’. It is only when he satisfies the obligation by delivery of cash or property or by settlement of accounts, that there is expenditure. But expenditure does not necessarily involve actual delivery of or parting with money or property. If there are cross-claims-one by the assessee against a stranger and the other by the stranger against the assessee and as a result of accounting the balance due only is paid, the amount which is debited against the assessee in the settlement of accounts may appropriately be termed ‘expenditure’ within the meaning of sec. 37(1). However, a mere forbearance to realize a claim is not ‘expenditure’. Hon’ble Delhi High Court in the case of B K Khanna & Co. P Ltd Vs CIT, 247 ITR 705 held that ‘spending’ in the sense of “paying out or away of money is the primary meaning of ‘expenditure’. The word ‘expenditure’ means what is paid out or away and is something which is gone irretrievably.
Hon’ble Supreme Court in the case of Eimco K C P Ltd Vs CIT, 242 ITR 659, was considering the claimof assessee towards expenditure on technical know-how. In the said case the assessee was a joint venture between an American company and an Indian company. The authorized capital of the assessee company was Rs.100 lacs. Each of the promoters agreed to subscribe Rs.4,70,000/- out of which each would have to pay initially a sum of Rs.2,80,000/- towards its contribution. The share of American promoter was contributed by way of technical know-how valued at a sum of Rs.2,35,000/- and in lieu of which the assessee allotted equity shares. The same was considered as capital expenditure. The Hon’ble Supreme Court held -
“That what in effect was done by the appellant in allotting equity shares of Rs.2,80,000 to Eimco, was to reimburse the contribution by Eimco by way of know-how, which could never be treated as expenditure, much less an expenditure laid out wholly and exclusively for purposes of the business of the appellant. It was not a case where after the incorporation, the appellant-company in the course of carrying on its business, spent the said amount for acquiring, any asset. The High Court had rightly concluded that allotment of equity shares by the appellant to Eimco, in the circumstances of the case, could not be termed as expenditure, much less revenue expenditure.” Similar view was held by the Hon’ble Delhi High Court in the case of CIT vs. Reinz Talbros Pvt. Ltd, 252 ITR 637 wherein the Hon’ble Delhi High Court speaking through Shri Arijit Pasayat, Hon’ble Chief Justice (as his Lordship then was), held -
“A similar question came up before the apex court in Eimco K C P Ltd vs CIT  242 ITR 659. It was held that where a foreign company gives a technical know-how and obtains equity shares in the new company, the amount attributable to technical know- how was not revenue expenditure under section 37 of the Act. However, it was treated to be of capital nature. It is clearly borne out from the various orders that the assessee was a new company. That being the position, the Tribunal was not justified in holding that the expenditure in question was revenue in character.”
In the present case it is seen that the liability was discharged by way of issuance of shares. When the assessee issues shares the assessee does not incur any expenditure as the assessee is not to make any payment legally towards shares issued. The shares cannot be equated with debentures, which is purely by way of loan and the same are required to be repaid on maturity. However, in respect of shares the company is under no obligation to make any payment in respect of such shares where share holders accept payment of pro rata dividend when such dividend is declared. Thus by issuance of shares the assessee cannot be said to have incurred any expenditure and hence issuance of shares in lieu of interest liability cannot be considered to have been payment towards expenditure. Accordingly the interest liability discharged is not an allowable expenditure. This ground is accordingly dismissed”.
6. The aforesaid decision is neither reversed by a higher forum nor there is any other binding judicial precedent to the contrary. We are in respectful agreement with the views so stated by the coordinate bench. As regards learned counsel’s erudite agreements, suffice to say that there is indeed a significant difference in discharging a debt by giving away an asset, such as securities, and by issuing capital. The latter, in our considered view, would not amount to payment. As regards her reliance on CBDT Circular No. 7 also, we find no substance. While it recognizes the fact that liability can be discharged in a number of ways, it does emphasize the fundamental principle that unless ‘actual payment’ is made, the restriction placed in section 43B will hold good and deduction cannot be allowed. In view of these discussions, as also bearing in mind entirety of the case, we uphold the grievance of the Assessing Officer and restore the disallowance of Rs.68,18,318/-.
7. In the result, the appeal filed by the Revenue is allowed.