Delhi H.C : Whether, on the facts and in the circumstances of the case, the Tribunal was right in law in holding that the amounts of salaries due to the directors of the company, but not paid to them and utilised by the company for the purposes of its business constituted capital borrowed for the purposes of its business, within the meaning of s. 36(1)(iii) of the IT Act, 1961 ?

ARIJIT PASAYAT, C.J. :

These two cases involve identical disputes and shall be governed by the common judgment.

2. On being moved by the Revenue, following questions have been referred for opinion of this Court by the Tribunal, New Delhi, under s. 256(1) of the IT Act, 1961 (‘the Act’) :

“1. Whether, on the facts and in the circumstances of the case, the Tribunal was right in law in holding that the amounts of salaries due to the directors of the company, but not paid to them and utilised by the company for the purposes of its business constituted capital borrowed for the purposes of its business, within the meaning of s. 36(1)(iii) of the IT Act, 1961 ?

Whether, on the facts and the circumstances of the case, the Tribunal was right in law in holding that the interest paid by the assessee to the directors on such undisbursed salaries constituted interest on capital borrowed for the purposes of the business within the meaning of s. 36(1)(iii) of the Act ?”

Brief reference to the factual position, as indicated in the statement of case, would suffice.

The assessee, a private limited company, credited interest totalling Rs. 4,905 and Rs. 5,866 for two assessment years, i.e., 1974-75 and 1975-76, with which we are concerned, to the accounts of its directors, which showed credit balances on account of salaries due to them but not paid. These interests in question were claimed as deduction under s. 36(1)(iii) of the Act. The ITO disallowed the claims on the ground that the conditions required to bring in application of s. 36(1)(iii) were absent. The assessee filed appeal before the Appellate Assistant Commissioner (in short AAC) and contended that the ITO was wrong in disallowing the claims. The AAC accepted the claims and held that ITO erred in disallowing them. Matter was carried in appeal by the Revenue before the Tribunal. It was contended that there was no capital borrowed, which was the fundamental requirement for bringing in application of s. 36(1) (iii) of the Act. The Tribunal did not accept the plea and held that had the payments being made to the Directors, assessee would have been required to borrow funds to pay interest. Therefore, the funds, which were utilised by assessee for the purpose of its business had clear link to the amounts which would, otherwise, been required to be borrowed for the purpose to carry on its business. Accordingly, it was held that the amounts in question were allowable in terms of s. 36(1)(iii) of the Act.

On being moved for reference, the questions, as set out above, have been referred for opinion of this Court. We have heard the learned counsel for the Revenue. There is no appearance on behalf of the assessee in spite of notice. The only question that needs adjudication, according to us, is whether the Tribunal was justified in holding that the amounts, which were due to the directors and had not been paid but utilised in the manner described by the Tribunal constitute capital borrowed for the purpose of its business within the meaning of s. 36(1)(iii) of the Act. Sec. 36(1)(iii) of the Act reads as follows : “Sec. 36(1)(iii) The amount of the interest paid in respect of capital borrowed for the purposes of the business or profession. Explanation.—Recurring subscriptions paid periodically by shareholders, or subscribers in Mutual Benefit Societies which fulfil such conditions as may be prescribed, shall be deemed to be capital borrowed within the meaning of this clause;”

6. The provision is almost in pari materia with the provision of s. 10(2)(iii) of the Indian IT Act, 1922 (in short ‘the Old Act’). What constitutes ‘capital borrowed’ has been dealt with by the apex Court in Bombay Steam Navigation Co. (P) Ltd. vs. CIT (1965) 56 ITR 52 (Del) : TC 15R.857, 16R.881. The expression ‘capital borrowed’ used in s.

36(1)(iii) of the Act in the context in which it is placed in the provision means money and not any other asset. By cl. (iii) of sub-s. (1) of s. 36, interest paid in respect of capital borrowed for the purpose of business or professional act is a permissible allowance in the computation of profits or gains. Interest paid need not, however, bear the character of a revenue outgoing. To be admissible as an allowance under the concerned provision, interest must be paid in respect of capital borrowed. However, interest paid but not in respect of capital borrowed cannot be allowed. Interest payable on capital borrowed means interest, which actually becomes payable on an amount of money and not on any other asset. An amount due under a statute cannot be regarded as borrowed capital for the expression ‘capital’ predicates the relationship of a borrower and a lender, which relationship has to be found as a matter of fact. Conceptually, for the purpose of s. 36(1)(iii), ‘interest’ is relatable only to money borrowed and not on debt incurred. The word ‘interest’ has a basic meaning of advantage or profit and with reference to a loan it means the profit or advantage of the creditor which he gets by giving to another use of his money. Interest can be described as a consideration paid either for use of money or for forbearance in demanding it after it has fallen due. It is a compensation allowed by law or fixed by parties or permitted by custom or usage, for use of money belonging to another or for delay in paying the money after it has become payable. Both, the AAC and the Tribunal, accepted that amounts, which were due to the directors by way of salaries, were not disbursed during the years. The further finding that they would have been required to borrow capital to disburse other obligations cannot per se make the amount, which was in fact a liability, a capital borrowed for the purpose of business. That is only a hypothetical conclusion.

7. Above being the position, the AAC and the Tribunal were not justified in their respective conclusions about the amount involved being capital borrowed. Therefore, both questions referred are answered in the negative, in favour of the Revenue and against the assessee.

[Citation : 249 ITR 235]