Supreme Court clarifies taxability of interest on share application money: Commissioner of Income Tax vs. Shree Rama Multi Tech Ltd (2018)

Introduction

Date of the Judgment: 24 April 2018
Citation: 2018 INSC 339
Judges: R.K. Agrawal, J. and Abhay Manohar Sapre, J.

Is interest earned on share application money taxable income, or can it be adjusted against the expenses incurred in raising share capital? The Supreme Court of India addressed this question in a case involving M/s. Shree Rama Multi Tech Ltd. The core issue revolved around whether interest earned on funds collected during a public issue should be considered taxable income or a capital receipt that could be set off against issue-related expenses. The judgment was delivered by a two-judge bench comprising Justice R.K. Agrawal and Justice Abhay Manohar Sapre.

Case Background

M/s. Shree Rama Multi Tech Ltd., the respondent, is a manufacturer of multi-layer tubes and specialty plastic products. The dispute arose from the assessment years 1999-2000, 2000-2001, and 2001-2002. For the assessment year 2000-2001, the respondent initially declared a total income of Rs 20,00,59,650. The Assessing Officer, however, assessed the taxable income at Rs 27,61,14,254. This assessment was later modified following a Tribunal decision, which directed a re-adjudication on certain matters, including the set-off claimed on interest from share application money. Consequently, the total income was re-determined at Rs. 17,30,88,691, but restricted to Rs 20,00,59,650 due to a provision in Section 240(b) of the Income Tax Act, 1961.

The respondent appealed to the Commissioner of Income Tax (Appeals), who allowed the appeal and directed the Assessing Officer to re-compute the income without applying the proviso to Section 240 of the IT Act. Simultaneously, re-assessment proceedings were initiated under Section 147 of the IT Act, leading to a total income determination of Rs 20,66,29,165. The respondent further appealed, contesting the non-allowance of set-off of interest income against public issue expenses. The Commissioner of Income Tax (Appeals) partly allowed the appeal but upheld the decision not to allow the set-off. Both parties then filed cross-appeals before the Tribunal. The Tribunal allowed the respondent’s claim for deduction of interest income of Rs 1,71,30,212 and remanded other issues back to the Assessing Officer. The Revenue then appealed to the High Court, which dismissed the appeal on the taxability of the interest income. This led to the current appeal before the Supreme Court.

Timeline

Course of Proceedings

The Income Tax Appellate Tribunal (Tribunal) initially directed a re-adjudication on the set-off of interest on share application money. Following this, the Assessing Officer disallowed the set-off, adding the interest income to the total income. The Commissioner of Income Tax (Appeals) partly allowed the appeal but upheld the decision not to allow the set-off. The Tribunal, in a subsequent order, allowed the claim for deduction of interest income. The High Court upheld the Tribunal’s decision, leading to the current appeal by the Revenue before the Supreme Court.

Legal Framework

The case primarily revolves around the interpretation of the Income Tax Act, 1961, specifically concerning the taxability of interest income and its set-off against expenses. The core issue is whether interest earned on share application money, which is statutorily required to be kept in a separate account until allotment, should be treated as taxable income or as a capital receipt that can be adjusted against the expenses of raising share capital. The relevant legal provisions include:

• Section 44AB of the Income Tax Act, 1961: This section mandates a tax audit report. The tax audit report mentioned the interest income under consideration.
• Section 147 of the Income Tax Act, 1961: This section deals with re-assessment proceedings when the Assessing Officer believes that income has escaped assessment.
• Section 240(b) of the Income Tax Act, 1961: This section deals with the refund of tax, and its proviso was discussed in the context of restricting the re-determined income.

Arguments

Appellant’s Arguments (Revenue):

• The appellant contended that the High Court’s order was against the law and facts of the case.
• The appellant argued that the High Court erred in relying on its earlier order in Assistant Commissioner of Income Tax vs. Panama Petrochem Ltd., where it was held that interest income from share application money is liable to be set off against public issue expenses. The appellant noted that they could not file a special leave petition in that case due to the low tax effect.
• The appellant argued that interest income is generally considered revenue in nature unless it is received as damages or compensation. Since this case does not involve damages or compensation, the interest income should be treated as taxable revenue.

Respondent’s Arguments (M/s. Shree Rama Multi Tech Ltd.):

• The respondent argued that the case is squarely covered by the Supreme Court’s decision in Commissioner of Income Tax vs. Bokaro Steel Ltd., which held that certain incomes directly linked to the construction of a plant are capital receipts, not income from an independent source.
• The respondent contended that the High Court’s judgment was within the parameters of the law and did not require any interference.

Issues Framed by the Supreme Court

The Supreme Court framed the following issue for consideration:

1. Whether, in the facts and circumstances of the present case, interest accrued on account of deposit of share application money is taxable income at the hands of the Respondent?

Treatment of the Issue by the Court

Authorities

The Supreme Court considered the following authorities:

Judgment

How each authority was viewed by the Court?

• The Supreme Court followed the ratio in Commissioner of Income Tax vs. Bokaro Steel Ltd. [(1999) 236 ITR 315]* stating that the amounts were directly connected to and incidental to the construction of the plant by the company, hence, the amounts were capital receipts and not income from any independent source.
• The Supreme Court followed the ratio in Commissioner of Income Tax vs. Karnal Co-operative Sugar Mills Ltd. [(2000) 243 ITR 2]* stating that the deposit of money was directly linked with the purchase of plant and machinery.
• The Supreme Court referred to the High Court of Gujarat’s order in Assistant Commissioner of Income Tax vs. Panama Petrochem Ltd. (Tax Appeal No. 315 of 2010)* where it was held that the interest income occurred by keeping the amount of share application money in a bank account is liable to be set off against the public issue expenses.

What weighed in the mind of the Court?

The Supreme Court’s decision was primarily influenced by the fact that the interest earned on share application money was not for the purpose of generating additional income, but rather a consequence of the statutory requirement to keep the money in a separate account until the allotment of shares. The Court emphasized that the interest was inextricably linked to the process of raising share capital and should therefore be adjusted against the expenses incurred for the share issue. The court also relied on the principles laid down in Bokaro Steel Ltd. and Karnal Co-operative Sugar Mills Ltd., which established that income directly linked to capital expenditure is a capital receipt and not taxable income.

Logical Reasoning:

Key Takeaways

• Interest earned on share application money, which is statutorily required to be kept in a separate account, is not taxable income.
• Such interest can be adjusted against the expenses incurred for the share issue.
• The principle established in Commissioner of Income Tax vs. Bokaro Steel Ltd. and Commissioner of Income Tax vs. Karnal Co-operative Sugar Mills Ltd., that income directly linked to capital expenditure is a capital receipt, was reaffirmed.
• Companies raising capital through public issues can now adjust the interest earned on share application money against their public issue expenses, reducing their tax liability.

Directions

The Supreme Court dismissed the appeals filed by the Revenue. The Court upheld the decision of the High Court and the Tribunal that the interest income earned out of the share application money is liable to be set off against the public issue expenses.

Development of Law

The ratio decidendi of the case is that interest earned on share application money, which is statutorily required to be kept in a separate account, is not taxable income and can be adjusted against the expenses incurred for the share issue. This judgment reaffirms the principle that income directly linked to capital expenditure is a capital receipt and not taxable income, as established in previous cases like Bokaro Steel Ltd. and Karnal Co-operative Sugar Mills Ltd. There is no change in the previous positions of law, but the judgment clarifies the application of these principles in the context of share application money.

Conclusion

In conclusion, the Supreme Court’s judgment in Commissioner of Income Tax vs. M/s. Shree Rama Multi Tech Ltd. provides clarity on the taxability of interest earned on share application money. The Court held that such interest is not taxable income but rather a capital receipt that can be adjusted against the expenses incurred for the share issue. This decision is based on the principle that income directly linked to capital expenditure is not taxable and reaffirms the legal position established in previous cases. The ruling provides significant relief for companies raising capital through public issues, allowing them to reduce their tax liability by adjusting the interest earned on share application money against their public issue expenses.