High Court Of Bombay
CIT Vs. Swani Spice Mills (P.) Ltd.
Assessment Year : 1997-98
Section : 56, 28(i), 80HHC
Dr. D.Y. Chandrachud And J.P. Devadhar, JJ.
IT Appeal No. 1019 Of 2007
April  19, 2010Â
JUDGMENT
Dr. D.Y. Chandrachud J. – This appeal by the revenue under section 260A of the Income-tax Act, 1961 has been admitted on the following substantial questions of law :
“(a) Whether on the facts and circumstances of the case, the Appellate Tribunal was justified in holding that the various incomes received during the relevant year that is of Rs. 31,49,942 should be treated as income from business, and not income from other sources ?
(b) Whether the Tribunal is correct in law in directing that the 90 per cent of the net interest and bill discounting charges, after allowing a set-off of interest paid, to be taken into account while determining deduction under clause (baa) of the Explanation below sub-section (4B) of section 80HHC?”
2. Counsel appearing for the Revenue and counsel for the assessee are agreed in stating before the court that the second question stands covered against the assessee and in favour of the Revenue by the judgment of this Court in CIT v. Asian Star Co. Ltd. [2010] 326 ITR 56. Hence, the second question of law is answered in favour of the Revenue and against the assessee. That leaves open for adjudication the first question formulated.
3. The issue before the court arises in relation to the assessment year 1997-98. The assessee carried on the business of the export of spices, seeds and other goods. The assessee also carries on the business of cleaning and fumigation of seeds, spices and other goods and a warehousing business, for which separate books of account are maintained. During the course of the year under consideration the total turnover of the assessee was Rs. 3.62 crores, of which the export sales constituted Rs. 3.45 crores. The assessee claimed a deduction under section 80HHC. During the year, the assessee received an amount of Rs. 31.49 lakhs as discounting charges and interest on intercorporate deposits. In a reply filed before the Assessing Officer on 23-9-1999, the assessee explained how bill discounting charges and interest on intercorporate deposits was earned. According to the assessee, after the receipt of export orders, the assessee purchases raw material which is processed to make it fit for export. After exports are effected, the actual realization of export bills through normal banking channels takes a month or more depending upon the location of the country to which export is made. Consequently, in order to obviate the time lag involved in the realization of proceeds, the export bills are discounted by the assessee with its bankers. Upon the receipt of the discounted proceeds and, if the assessee has no order for exports, the proceeds are utilized towards the return of loans taken from banks and other entities. Thereafter, if there is a balance, the assessee discounts purchase bills of private parties for periods between 3 and 5 weeks against which the assessee receives interest at rates between 20 to 22 per cent as against the nominal interest charged by a bank on bill discounting. These receipts of interest are credited to the interest account to reduce deficits on account of interest payment.
4. The Assessing Officer came to the conclusion that the assessee is engaged in the business of export and not in financing or money-lending. The activity of discounting local sale bills or of advancing loans to sister concerns was held to be only an additional activity, which commences after the activity related to the business of export has ended. On this view, the Assessing Officer came to the conclusion that the income realized from discounting local sale bills constituted income from surplus funds and not from the business of export. The claim of the assessee that this income would be taxable under the head of profits and gains of business was held not to be acceptable. In appeal, the Commissioner (Appeals) held that an identical issue had arisen before him in the appeal of the assessee for the assessment year 1996-97 and the contention of the assessee had been accepted by an order dated 14-12-2000. The Commissioner (Appeals) held that there was no reason to depart from the view taken by him for the assessment year 1996-97.
5. The Tribunal, in appeal, affirmed the view of the Commissioner (Appeals) and held that the assessee had established a nexus between the income and the money utilized, which constitute business funds generated from the export activity carried on by the assessee. The Tribunal held that the income had a direct nexus with export activity. Consequently, the interest income could not, according to the Tribunal, be treated as income from other sources. The Tribunal also held that the Assessing Officer had on the basis of the same facts and circumstances changed the opinion which he had taken for the earlier years. On this basis, the income was held to be eligible for deduction under section 80HHC.
6. Section 80HHC provides that where an assessee, being an Indian company or a person other than a company resident in India, engages in the business of export out of India of any goods or merchandise to which the section applies, there shall, in accordance with and subject to the provisions of the section, be allowed, in computing the total income of the assessee, a deduction to the extent of profits, referred to in sub-section (IB), derived by the assessee from the export of such goods or merchandise. The salient aspect of sub-section (1) of section 80HHC is that the deduction is available to the extent of profits derived by the assessee from the export of goods or merchandise. The expression “derived” is of a narrower ambit than what is “attributable to”. Profits of business, in order to qualify for deduction, must have a direct and immediate nexus with the export activity so as to be susceptible to the conclusion of being derived from the export of goods or merchandise, to which the section applies.
7. Sub-section (3) to section 80HHC lays down a formula under which, in the case of an assessee engaged in the export of goods or merchandise, manufactured or processed by him, the profits derived from such export are represented by the proportion which the export turnover bears to the total turnover of the business carried on by the assessee. Under clause (baa) of the Explanation to section 80HHC, the expression profits of the business are to be computed under the head “Profits and gains of business or profession” as reduced by : (1) ninety per cent of any sum referred to in clauses (iiia), (iiib), (iiic ), (iiid) and (iiie) of section 28 or of any receipts by way of brokerage, commission, interest, rent, charges or any other receipt of a similar nature included in such profits; and (2) the profits of any branch, office, warehouse or any other establishment of the assessee situate outside India.
8. Consequently, in view of clause (baa) of the Explanation , profits of the business have to be computed under the head “Profits and gains of business or profession” in accordance with the provisions of sections 28 to 44D of the Income-tax Act, 1961. These profits are then liable to be reduced in accordance with the provisions of sub-clauses (1) and (2) as noted above. The underlying rationale for sub-clauses (1) and (2) is that items which are unrelated to export turnover such as export incentives or receipts such as brokerage, commission, interest, rent, charges or other receipts of a similar nature are liable to be excluded even though they form part of the profits and gains of business or profession. These are the salient aspects of the provisions made by Parliament, while legislating upon section 80HHC to provide for a deduction in respect of the profits retained for export business.
9. The issue which falls for determination in the present case is as to whether the interest that was received by the assessee towards discounting, local sale bills and on intercorporate deposits constituted income which would fall under the head “Profits and gains of business or profession” or, whether it would constitute income from other sources.
10. The contention of the assessee is that these receipts constitute business income, which had a direct nexus with its export activity whereas on the other hand the contention of the Revenue is that these receipts would fall for classification as income from other sources. The total income of an assessee which is chargeable to tax under section 4 has to be computed in accordance with the provisions of the Act. Section 14 provides that all income shall, for the purposes of the charge of income- tax and computation of total income, be classified under the following heads of income : (i) Salaries ; (ii) Income from house property ; (iii) Profits and gains of business or profession ; (iv) Capital gains ; and (v) Income from other sources. The head of interest on securities has been omitted with effect from 1-4-1989. Section 28 defines income which is chargeable to income-tax under the head “Profits and gains of business or profession”. Section 56 stipulates that income of every kind which is not to be excluded from the total income under the Act shall be chargeable to income-tax under the head “Income from other sources”, if it is not chargeable to income-tax under any of the heads specified in items A to E of section 14. Hence, income can fall for classification under the head “Income from other sources” if the income is of a kind which is not to be excluded from total income and if it is not chargeable to income-tax under any of the heads specifically enumerated in items A to E of section 14. The question of classifying a head of income under section 56 can therefore, arise where it does not form part of any of the specifically enumerated heads.
11. The submission which has been urged on behalf of the Revenue in the present case is that : (i) The business of the assessee in the present case consists of the export of goods; (ii) The assessee does not engage in the business of financing or of money-lending; (iii ) The interest that was realized on surplus funds utilized for earning interest cannot be regarded as business income and can only fall for classification as income from other sources; (iv ) The income earned by way of discounting of local sale bills and on intercorporate deposits has absolutely no nexus with the export activity of the assessee and constitutes income which is generated by the utilization of surplus funds for earning interest.
12. On the other hand, it has been submitted on behalf of the assessee that : (i) Any income arising out of a temporary exploitation of the assets of business would constitute business income; (ii) The surplus cash available with the assessee constitutes a business asset and the temporary exploitation of that asset in bill discounting or in short-term deposits or, for that matter, in intercorporate deposits would constitute business income; (iii)The consistent view of this court is that where the assessee invests its surplus funds not for the purposes of earning interest as such but so as not to keep the money idle, the income which is generated from such investments would constitute business income.
13. In order to appreciate the rival submissions, it would be necessary at the outset to advert to the judgments of the Supreme Court and having done so to unfold how the law has been applied in individual fact situations by the High Courts.
14. In Tuticorin Alkali Chemicals & Fertilizers Ltd. v. CIT [1997] 227 ITR 172 / 93 Taxman 502 (SC) the assessee was incorporated in 1971 for manufacture of heavy chemicals. The trial production of its factories commenced in June 1982. The assessee had obtained term loans from financial institutions for setting up its factories. A part of its borrowed funds which were not immediately required by the assessee, were invested in short- term deposits with banks. For the assessment year 1982-83, the assessee disclosed a sum of Rs. 2.92 lakhs earned on account of interest as income from other sources. Subsequently, the assessee filed a revised return by which it claimed that the interest together with other pre-production expenses were liable to be capitalized and that consequently the interest income of Rs. 2.92 lakhs would reduce the pre-production expenses which would ultimately be capitalized. For the assessment year 1983-84, the assessee received interest income of Rs. 1.80 lakhs and in its return it claimed that this amount would reduce the pre-production expenses and would have to be capitalized. This contention of the assessee was rejected by the Assessing Officer and, in appeal, by the Commissioner (Appeals) and by the Tribunal. The Supreme Court held that the assessee had surplus funds in its hands and the interest which was earned on the investment of these funds, which was made for the purposes of earning interest was of a revenue nature which would have to be brought to tax. The issue which arose before the Supreme Court was whether the interest derived by the assessee from borrowed funds which were invested in short-term deposits with banks would be chargeable to tax under the head “Income from other sources” or would go to reduce the interest payable by the assessee on its term loans which would be capitalized after the commencement of production. The Supreme Court observed that “in the usual course, interest received by the company from the bank deposits and loans would be taxable as income under the head ‘Income from other sources’ under section 56”. The assessee submitted that it had not yet commenced business and, in any event, the income was derived from funds borrowed for setting up its factory and should be adjusted against the interest payable on borrowed funds. The Supreme Court held that neither of these two factors would affect the taxability of the income earned by the company. Under the Act, the total income of the assessee was chargeable to tax under section 4. The total income had to be computed in accordance with the provisions of the Act and section 14 lays down, for the purpose of computation, classification in of income under several heads. The Supreme Court held that it was a basic proposition that an assessee could have different sources of income each of which would be chargeable to income-tax. The profits and gains of business or profession was one head but if the assessee had not commenced business, there was no question of income being assessed under that head. Nonetheless, the income received by the assessee could be classifiable under other heads shown in section 14. If an assessee, as in that case keeps its surplus funds in short-term deposits in order to earn interest, such interest, held that the Supreme Court, would be chargeable under section 56 of the Act. The assessee having decided not to keep its surplus capital idle but to invest it fruitfully, the fruits of that investment would be of a revenue nature. The income so realized would not constitute accretion to capital. The Supreme Court held that the assessee was at liberty to use its interest income in any manner as it chose. Tax is attracted at the point when the income is earned and the taxability of income is not dependent upon its destination or manner of its utilization.
15. In CIT v. Bokaro Steel Ltd. [1999] 236 ITR 315 / 102 Taxman 94 (SC), the assessee during the course of the assessment years under consideration was in the process of completing the work of construction of its factory and plant. The company had not started any business and during the period, it received the following income : (i) income received from contractors towards hire charges for quarters; (ii) interest received for advance payments made to contractors; (iii) income towards hire charges received from contractors against the letting of plant and machinery; (iv) royalty received from the contractors towards excavation of material, and (v) income from interest for the supply of, locomotives to Hindustan Steel. The Supreme Court, while distinguishing the earlier judgment in Tuticorin Alkali Chemicals & Fertilizers Ltd.’s case (supra) held that while interest earned by investing borrowed capital in short-term deposits is an independent source of income not connected with the construction activities or the business activities of the assessee, this could not be said in the facts of the case where utilization of the assets of the assessee and payments received were directly linked with the activity of setting up of the steel plant. The Supreme Court held that the receipts were “inextricably linked with the setting up of the capital structure of the assessee-company” and “must, therefore, be viewed as capital receipts going to reduce the cost of construction”. The judgment of the Supreme Court, therefore, emphasizes that where an assessee earns interest by investing borrowed capital in short-term deposits, that would constitute an independent source of income. The case at hand however did not fall into that category since the income received was held to be inseparably linked with the setting up of the capital structure of the company.
16. The decision in Bokaro Steel Ltd.’s case (supra) has been followed in the subsequent judgments of the Supreme Court in CIT v. Karnataka Power Corpn. [2000] 112 Taxman 629/[2001] 247 ITR 268 and Bongaigaon Refinery & Petrochemicals Ltd. v. CIT [2001] 251 ITR 329/ 119 Taxman 488 . In Bongaigaon Refinery & Petrochemicals Ltd.’s case (supra), the issue before the Supreme Court was whether the Tribunal was justified in holding that the items of income derived by the assessee during the formation period for the main business did not constitute taxable income but were liable to be adjusted against the project costs. The Supreme Court explained its earlier decision in Tuticorin Alkali Chemicals & Fertilizers Ltd.’s case (supra) to be a case where the question related to interest earned by a company during its formative period by investments. In other words, the decision did not apply where the receipts were directly connected with or were incidental to the work of construction as explained in Bokaro Steel Ltd.’s case (supra). The Supreme Court answered the issue which was raised before it by holding that on items excluding interest the question would have to be answered in favour of the assessee. In other words, the interest income which was received by the assessee during the course of its formative period would constitute taxable income.
17. In CIT v. Govinda Choudhury & Sons [1993] 203 ITR 881/[1994] 74 Taxman 331 (SC), the assessee was involved in the business of executing certain contracts with the Government. Disputes arose in relation to the assessment year. The assessee received payments under arbitral awards which were inclusive of interest for the delay in the payment of the amount due. The assessee claimed that the interest received was of the same nature as other trading receipts. The Supreme Court held in that case that the interest could be assessed under the head “Income from other sources” only if it cannot be brought within one or the other of the specific heads of charge. On the facts before the court, it was held that the interest payable to the assessee was of the same character as the receipts for the payment of which he was entitled under the contract. The interest could not be separated from the other amounts granted to the assessee.
18. In CIT v. Karnal Co-operative Sugar Mills Ltd. [2000] 243 ITR 2/[2001] 118 Taxman 489 (SC), the assessee had deposited money in order to open a letter of credit for the purchase of machinery required for the setting up of a plant. Interest was earned on the money so deposited. The Supreme Court held that the deposit of money in that case was directly linked with the purchase of plant and machinery. Consequently that was not a case where any surplus share capital money which was lying idle had been deposited in the bank for the purpose of earning interest. The income earned on such deposits was held to be incidental to the acquisition of assets for the setting up of plant and machinery and to that extent to be governed by the decision in Bokaro Steel Ltd.’s case (supra).
19. In CIT v. Autokast Ltd. [2001] 248 ITR 110 / 116 Taxman 244 (SC), the assessee had borrowed funds from a financial institution which were left in deposit with a bank, till the assessee found it necessary to use the amount either in the purchase of plant and machinery or for running its establishment. The assessee with the help of the bank became a member of the bill market which resulted in income during the accounting year. The assessee earned interest on its deposits. The assessee had made short-term deposits of a duration between 15 to 45 days out of moneys found surplus to its present needs. The question was whether the interest income was not assessable to tax in the hands of the assessee. The High Court in its decision in CIT v. Autokast Ltd. [1997] 90 Taxman 103 /[1998] 229 ITR 789 (Ker.) held against the Revenue. In a civil appeal arising out of the judgment of the Kerala High Court, the Supreme Court set aside the judgment of the High Court and held that it was not in dispute that the appeal must succeed in view of its judgment in Tuticorin Alkali Chemicals & Fertilizers Ltd.’s case (supra).
20. These judgments of the Supreme Court establish that the income of an assessee which is chargeable to tax under section 4 is required for the purposes of computation to be classified under various heads of income specified in section 14. Section 56 which deals with income from other sources is attracted where the income does not belong to a category which is specified in any of the other heads elucidated in section 14. Income earned by an assessee, which utilizes its surplus funds in order to earn interest cannot be classified under the head of business income but will fall for classification as income from other sources.
21. In TuticorinAlkali Chemicals & Fertilizers Ltd.’s case (supra), the Supreme Court formulated the principle by holding that in the usual course interest received by the asses- see from bank deposits and loans would be taxable as income under the head “Income from other sources” under section 56. The rationale for this is that where the business of the assessee does not consist of the investment of funds, the activity of the assessee of parking its surplus funds with a view to earn interest cannot be regarded as partaking of the character of a business activity that would generate business income. While dealing with the judgments in TuticorinAlkali Chemicals & Fertilizers Ltd.’s case ( supra) and Bokaro Steel Ltd.’s case (supra) the court must be mindful of the circumstance that the principal issue which arose before the Supreme Court was whether the interest which was generated from the investment of funds was taxable or whether it formed a part of the capital expenditure of the assessee. In TuticorinAlkali Chemicals & Fertilizers Ltd.’s case ( supra), this issue was answered by the Supreme Court by holding that since the assessee was yet to commence business, there was no occasion for it to be assessed under the head “Profits and gains of business”. At the same time, the income which was generated by the assessee would fall for classification under one of the other heads elucidated in section 14 and whether the assessee had kept its surplus funds in short-term deposits in order to earn interest, such interest would be chargeable under section 56. The subsequent judgment in Bokaro Steel Ltd.’s case (supra) dealt with a situation where the receipts that were realized by the assessee were directly linked with the setting up of the capital structure of the assessee and were to be viewed as capital receipts which reduced the cost of construction. While holding thus, in the facts of the case, the Supreme Court clarified that otherwise interest earned by investing borrowed capital in short-term deposits constituted an independent source of income not connected with the business activities of the assessee. As the subsequent decisions of the Supreme Court, to which a reference has been made, would show the question as to whether the interest income which is realized by an assessee inextricably arises out of the business activity or otherwise has to be determined on the basis of the facts and circumstances of each case. In Govinda Choudhury & Sons case (supra) the interest which was realized by the assessee under an arbitral award constituted a receipt for the delayed payment of the contractual dues of the assessee and hence was of the same nature and character as the principal dues which were payable under the terms of the contract. Similarly in Karnal Co-operative Sugar Mills Ltd.’s case (supra) the assessee had received interest payments on moneys which were deposited for the opening of a letter of credit for the purchase of machinery. In this background, the court emphasized that this was not a case where surplus share capital money which was lying idle was deposited with the bank for earning interest. The facts in Autokast Ltd.’s case (supra) were held by the Supreme Court to fall in the same category as TuticorinAlkali Chemicals & Fertilizers Ltd.’s case (supra), that being a case where the assessee had kept the moneys borrowed from a financial institution for the purchase of plant and machinery in short-term bank deposits and had used them in bill discounting until payment was made for the plant and machinery.
22. In this background, it would be appropriate now to consider some of the judgments of this court, which have a bearing on the question. In CIT v. Paramount Premises (P.) Ltd. [1991] 190 ITR 259 (Bom.), the assessee was engaged in the construction of buildings and had received : (i) deposits in instalments from prospective purchasers while the work of construction was in progress and the purchasers were liable to pay interest for non-payment on the stipulated dates; (ii) interest against amounts deposited with the banks or given on temporary loans out of the deposits which were received by the assessee ; and (iii ) interest received on fixed deposits maintained with a bank in order to enable the bank to give a guarantee in respect of the land taken on lease for the work of construction. A Division Bench of this court held that there was a finding of fact that the entire interest “sprang from the business activity of the assessee and does not arise out of any independent activity”. Hence, the interest income was regarded as the business income of the assessee and the finding of the Tribunal was confirmed. The decision in Paramount Premises (P.) Ltd.’s case (supra) deals with a situation where primarily, the purchasers of premises which were in the process of construction had paid interest towards delayed payment of the purchase price. The payment of such interest would be of the same nature and character as the consideration payable by the purchasers for the sale of premises. These deposits in turn were invested by the assessee and the assessee had also placed an additional deposit for obtaining a bank guarantee for land taken on lease for construction. Construction was the business of the assessee. The Division Bench essentially confirmed a finding of fact of the Tribunal that the interest which was earned by the assessee arose out of the business activity of the assessee and was not earned on an independent activity.
23. The decision of a Division Bench of this Court in Shree Krishna Polyster Ltd. v. Dy. CIT [2005] 274 ITR 21/ 144 Taxman 41 deals with a case where an assessee received surplus money against a public issue of share capital which was invested in bank deposits for 45 days. This court confirmed the view of the Assessing Officer and of the Tribunal that money lending did not constitute the business of the assessee. The finding that the interest received could not be assessable as business income was hence confirmed. The Division Bench held that the fact that an assessee carries on business does not mean that all income received by the assessee is business income since the assessee may have income that may be classified under one of the different heads in section 14. The mode and manner in which the income is derived would help in determining under which head the income would have to be classified. In the facts of that case, the Division Bench held that the short-term investment of surplus money generated from a public issue did not spring or emanate from the business activity of the assessee. These funds, the court held, did not constitute funds acquired in the course of the business activity and the interest earned from short-term deposits could not be treated as business income.
24. The subsequent decision of a Division Bench in CIT v. Indo Swiss Jewels Ltd. [2006] 284 ITR 389 (Bom.), involves a case where the assessee who was engaged in the business of manufacturing industrial jewels had earned interest income through the investment of its funds in intercorporate deposits. The judgment of the Division Bench notes that the appellate authority in that case was satisfied that the funds were kept by the assessee for short-terms for payment of imported machinery and that as a matter of fact all the deposits were utilized for the payment of machinery. The Division Bench explained that it was clear on the facts that the intercorporate deposits were set up for payment of imported machinery and were in fact utilized for that purpose. It was in these facts that the judgment of the court would indicate a direct and proximate nexus between the investments of funds and the import of machinery for the purpose of the business of the assessee. In a situation such as the one in Indo-Swiss Jewels Ltd.’s case (supra), the earmarking of the funds for a specific business purpose and the factual utilization of the funds for the business would provide the direct and proximate nexus with the business activity and a short-term deposit in the facts of that case was held not to detract from the business purpose so as to constitute an independent source.
25. In CIT v. Lok Holdings [2009] 308 ITR 356 /[2010] 189 Taxman 452 (Bom.), the assessee was engaged in construction business and had received moneys from purchasers of flats, which were deposited with a bank. The interest income on the money deposited with the bank was treated as income from other sources by the Assessing Officer. The Commissioner (Appeals) deleted the addition made by the Assessing Officer and the Tribunal confirmed that decision. The Division Bench held that the income in that case admittedly arose out of a running business. The interest was earned out of the moneys which accrued from the business of the assessee and was utilized for the purpose of business. The judgment in TuticorinAlkali Chemicals & Fertilizers Ltd.’s case (supra ) was distinguished on the ground that in that case the assessee had not commenced business and it was in that context that the Supreme Court had held that a company which had not commenced business could not have business income. In the facts before the court in Lok Holdings’ case (supra), it was held that the assessee was engaged in construction business and earned interest on the money deposited in the course of business.
26. The judgment of the Division Bench in Lok Holdings’ case (supra) is based on the peculiar facts and circumstances as they emerged before the court in that case. The decision would indicate that the investments made by the assessee were not a mere investment of its surplus funds. The investments made were regarded by the Division Bench as those which resulted in earning income from the running business of the assessee. The interest was utilized for the purpose of business and it was in these circumstances that the Division Bench must be construed to have found the existence of a direct and proximate nexus between the income that was earned and the business activity of the assessee. So construed, the judgment of the Division Bench is confined to the facts as they emerged before the court in that case. The judgment of the Division Bench in Lok Holdings’ case (supra) cannot be held to lay down a broad proposition of law that an investment of surplus funds by an assessee who carries on business must necessarily be construed to result in the generation of business income by way of interest received on investment.
27. Ordinarily, where an assessee invests funds surplus to the business and earns interest, such income does not constitute business income but falls under the head of income from other sources. Merely because an assessee carries on business and the income of the business is invested in deposits, that would not result in an inference that the return on the investments must partake of the character of business income. Every income which is earned by an assessee who carries on business is not business income. On the contrary, the position in law is that it is only where income earned on account of interest springs out of or emanates from the business activity of the assessee, that this income can be regarded as being of the nature and character of business income.
28. During the course of hearing, the attention of the court has been drawn to decisions of the High Courts, which have a bearing on the question which has arisen before the court in the present appeal. A brief reference to those judgments would be in order.
29. A Division Bench of the Madras High Court in South India Shipping Corpn. v. CIT [1999] 240 ITR 24/ 105 Taxman 660, held in the case of an assessee who carried on shipping business, that interest received on short-term deposits could not be regarded as business income but would fall for classification as income from other sources. The Madras High Court held that the fact that a person carries on business does not lead to the inference that all income received by such a person is business income. The same assessee may have income which has require to be classified as under more than one head and it is the manner in which the income is derived which is relevant and not merely the fact that the person is engaged in a business or profession. The same view has been taken by the Rajasthan High Court in Murli Investment Co. v. CIT [1987] 167 ITR 368/ 31 Taxman 410 and in CIT v. Rajasthan Land Development Corpn. [1995] 211 ITR 597.
30. In K. Ravindranathan Nair v. Dy. CIT [2003] 262 ITR 669 / 129 Taxman 811 (Ker.), an assessee who was engaged in export claimed relief under section 80HHC. The Assessing Officer treated the interest received on short-term deposits with banks as income from other sources. The assessee contended that the short-term deposits were effected as a condition precedent for the bank to open a letter of credit and to grant facilities necessary to enable the assessee to export goods. The Division Bench held that the expression “derived from” in section 80HHC must be understood as profit directly arising from export activities. The interest received by the assessee from short-term deposits was not a direct result of an export of goods or merchandise. Hence, the court held that the interest received from short-term deposits could not be classified as business income. The same view has been reiterated by the Kerala High Court in Southern Cashew Exporters v. Dy. CIT [2003] 130 Taxman 203 and in Urban Stanislaus Co. v. CIT [2003] 263 ITR 10/ 130 Taxman 244.
31. The Delhi High Court has held in CIT v. Shri Ram Honda Power Equip [2007] 289 ITR 475/ 158 Taxman 474 that where surplus funds are parked with a bank and interest is earned thereon, it can only be categorized as income from other sources. Such a receipt merits separate treatment under section 56, which is outside the ring of profits and gains of business or profession. Hence, the view of the Delhi High Court is that such a receipt would be out of the reckoning for the purposes of section 80HHC. A similar view has been taken by the Delhi High Court in CIT v. Goldtex Furnishing Industries [2008] 174 Taxman 187 and CIT v. Cosmos International [2009] 318 ITR 314/ 177 Taxman 363.
32. In Kashmir Arts v. CIT [2008] 166 Taxman 237 the Delhi High Court held that the interest earned by an assessee who is an exporter on FDRs kept with a bank as margin money as a condition for availing of credit facilities could not be termed as business income but income from other sources. Such income could not be included in the profits and gains of business in terms of the Explanation (baa)(1) to sub-section (4A) of section 80HHC.
33. For completing the narration this line of authority on section 80HHC, it would be necessary to refer to the judgment of a Division Bench of this court in CIT v. Ravi Ratna Exports (P.) Ltd. [2000] 246 ITR 443 / 112 Taxman 577 , where it has been held that interest on fixed deposits received by the assessee was correctly classified by the Assessing Officer as being taxable as income from other sources and that consequently such income could not fall under the head of profits and gains of business or profession. The Division Bench held that as a result such income could not be included in the business profits for the purposes of the formula under section 80HHC.
34. In Pandian Chemicals Ltd. v. CIT [2003] 262 ITR 278/ 129 Taxman 539 the Supreme Court construed the ambit of the expression “derived from” in section 80HH. The assessee had earned interest on a deposit placed with the Electricity Board for the supply of electricity. The contention of the assessee was that this should be treated as income derived from the industrial undertaking under section 80HH because, without electric supply, the undertaking could not be run. The Supreme Court held that the expression “derived from” should be “understood as something which has direct or immediate nexus” with the industrial undertaking. Though electricity may be required for the purposes of the industrial undertaking, the deposit required for its supply is a step removed from the business of the industrial undertaking. The derivation of profits on the deposit made with the Electricity Board “cannot be said to flow directly from the industrial undertaking itself” (pages 280, 281).
35. The consistent line of reasoning which emerges from the decision of several High Courts adverted to earlier is that the mere fact that an assessee carries on business would not result in an inference that the income which is earned by way of interest would fall for classification as business income. Where an assessee invests its surplus funds in order to earn interest and to obviate its funds lying idle, such income would not fall for classification as business income. This is particularly so in a situation where the business of the assessee does not consist in the investment of funds. Where the assessee engages in an independent line of business, interest earned on deposits cannot be regarded as falling under the head of profits and gains of business or profession. Such income would fall for classification as income from other sources. In applying the provisions of section 80HHC(1), the Legislature has made a specific provision for the deduction of such profits of business as are derived from the export activity. The expression “derived from” has been construed to require a direct and proximate nexus with the business of export. Absent such a nexus, the income which results from the activity would have to be excluded from reckoning for the purposes of the formula prescribed by section 80HHC. In the present case, the contention of the assessee both before the Assessing Officer and in appeal was that it carries on the business of the export of seeds, spices and similar goods. The funds required for the business were, according to the assessee, provided either by its directors/shareholders or borrowed from banks or private parties. The export bills of the assessee, against the fulfilment of export orders are sent for collection to banks and the assessee receives the discounted value of the sale proceeds. According to the assessee, the moneys which are so received are utilized for the repayment of its loans. If the assessee has no export orders and if there is still a balance, the assessee used its funds to discount the purchase bills of private parties for short periods of time of three to five weeks. For this activity, the assessee received interest of between 20 to 22 per cent. On the explanation of the assessee, which has been extracted in extenso in paragraph 6 of the order passed by the Assessing Officer, it is impossible for this court to come to the conclusion that the interest which has been received by the assessee bears a direct and proximate relationship with the export activity. Evidently, the explanation of the assessee is sufficient to indicate that the funds which are utilized for discounting local sale bills of private parties are those which are surplus to the business. These surplus funds of the assessee are utilized for discounting bills on which the assessee received discounting charges. The same would hold true insofar as intercorporate deposits are concerned. Income received by way of discounting charges and interest on intercorporate deposits would not fall under the head of profits and gains of business or profession but would fall under the head of income from other sources. Having no direct and proximate nexus with the export activity such income has to be wholly kept out of the reckoning for computing the deduction under section 80HHC. However, during the course of the hearing, counsel appearing on behalf of the assessee urged before the court in the alternative that the assessee must be regarded as carrying on an independent line of business activity consisting of the discounting of local sale bills. In support of this submission, the counsel laid emphasis on the circumstance that during the course of the assessment year in question, the amount received towards discounting charges, and interest on ICDs was Rs. 31.49 lakhs. Counsel submitted that this could not be regarded as being the result of a sporadic activity. A bifurcation of the amount of Rs. 31.49 lakhs between discounting charges and intercorporate deposits is not available at present on the record before the court. The attention of the court is also drawn to an order passed by the Commissioner (Appeals) for the assessment year 1996-97 on 14-12-2000. The Assessing Officer, following his own order for the assessment years 1995-96, 1996-97 and 1997-98 in the case of the sister concerns of the assessee came to the conclusion that the Assessing Officer was wrong in treating the interest income of Rs. 28,905 in that case as income from other sources. The record before the court is insufficient to evaluate the merits of the alternative submission. Hence, we are of the view that an opportunity should be granted to the assessee of substantiating its alternative case, as recorded in the previous paragraph before the Assessing Officer. In order to facilitate this exercise, the impugned order of the Tribunal dated 4-8-2004, is set aside. The Assessing Officer, upon remand shall reconsider the issue as to whether the receipt of Rs. 31,49,942 towards discounting charges and interest on intercorporate deposits constituted income from an independent line of business, in terms of the contention of the assessee recorded in the previous paragraph. While doing so, the Assessing Officer shall have due regard to the observations contained in this judgment. The appeal shall accordingly stand disposed of in the aforesaid terms. There shall be no order as to costs.
[Citation : 332 ITR 288]
