1 IN THE HIGH COURT OF JUDICATURE FOR RAJASTHAN AT JODHPUR -------------------------------------------------------- 1. INCOME TAX APPEAL No. 12 of 2005 C I T UDAIPUR V/S THE BANK OF RAJASTHAN LIMITED 2. INCOME TAX APPEAL No. 117 of 2005 C I T UDAIPUR V/S THE BANK OF RAJASTHAN LIMITED 3. INCOME TAX APPEAL No. 119 of 2005 C I T UDAIPUR V/S THE BANK OF RAJASTHAN LIMITED 4. INCOME TAX APPEAL No. 120 of 2005 THE COMMISSIONER OF INCOME TAX V/S THE BANK OF RAJASTHAN LTD Mr. KK BISSA, for the appellant / petitioner Mr. RAMIT MEHTA & Mr. AVINASH ACHARYA for Mr. LR MEHTA, for the respondent Date of Order : 24.3.2008 HON'BLE SHRI N P GUPTA,J. HON'BLE SHRI DEO NARAYAN THANVI,J. ORDER ----- (PER HON'BLE GUPTA,J.) These four appeals involve common questions of 2 law, and are between the same parties, and are, therefore, being decided by common order. Though these are two sets of appeals, one being Appeal No. 12/2005, which has been filed against the order of the learned Tribunal dt. 15.7.2004, while the other three appeals are against the common judgment of the Tribunal dated 29.5.2003, but then the judgment dt. 15.7.2004 simply follows the judgment dated 29.5.2003. Thus these appeals involve common questions of law. Appeal no. 12 was admitted vide order dt. 24.3.2005, by framing the following substantial question of law:- “Whether in the facts and circumstances of the case, the difference in interest amount accounted for by the assessee on accrual basis in his books of accounts, and the amount actually offered for taxation in computation of income submitted by the assessee should be the subject matter of adjustment under Section 143(1)(a) for raising a demand of tax and additional tax on that basis.?” While the other three appeals have been admitted vide order dt. 13.12.2005, by framing the following three substantial questions of law:- (i) Whether since Sections 18 to 21 have been deleted from the Income Tax Act, 1961 the interest on securities, that becomes part of transaction price of sale a purchase of securities is taxable as income from profits and gains of business? (ii) Whether taxability of such interest on securities subject of transaction price on sale or security continues to be governed by ratio of Supreme Court decision in Vijay 3 Bank Limited versus Commissioner of Income Tax (1991) 187 I.T.R. 541 for the periods subsequent to amendment in Income Tax Act? (iii) Whether the Tribunal was justified in holding that the Commissioner was in error in holding the assessment of such income made by Assessing Officer to be erroneous and prejudicial to the interest of the revenue while exercising power under Section 263 of the I.T. Act and in setting aside the order of commissioner passed under Section 263?” Since the basic judgment of the Tribunal is dated 29.5.2003, we proceed to consider the facts from that judgment. That judgment decides the matter relating to assessment years 1990-91, 1991-92, and 1992-93. The precise question involved in these matters before us is, only about taxability of the interest paid by the assessee, commonly known in the tax world as “broken period interest”. To elucidate, the bank purchases government securities, which have the issue price, they bear interest, they have maturity period, and are purchased by the bank. In this background when the bank purchase those security after certain time, of the date of issue, then, by the time they are purchased by the bank certain amount of interest is already accrued on that security, payable by the Government to the purchaser bank, and therefore, the bank purchased that security by paying the composite sum, comprising of the issue price, and accrued interest up-till the date of purchase. It is this element of interest, which is paid by the bank, at the time of purchase, for the period between 4 the date of issue, and date of purchase, is known as “broken period interest”, and the question precisely involved is, as to whether the bank is entitled to have deduction of this element of interest from its income. The question as formulated in Appeals No. 117, 119 & 120 comprehends, the effect of deletion of Section 18 to 21, and significantly, the transaction price of such purchase of security, being taxable as income from profit and gains of business. The second question is about continuity of transaction being covered by the ratio of judgment of Hon'ble the Supreme Court in Vijaya Bank Vs. Commissioner of Income Tax reported in (1991) 187 ITR-541, for the period subsequent to the amendment in the Income Tax Act, and the third question comprehends the power of the realizing authority. Thus, in substance the question is, as to whether the amount of broken period interest paid by the Bank can be claimed as allowable deduction from the income of the bank. It is not in dispute, that for the relevant period, involved in these appeals, the provisions of Section 18 to 21 of the Income Tax Act as they stood, did stand deleted. However, since much of the controversy is raised on the aspect of effect of deletion of these sections, we think it appropriate to quote the provisions of Section 18 to 21, as they stood earlier, and they read as under:- 5 “S.18 Interest on securities-(1) The following amounts due to an assessee in the previous year shall be chargeable to income-tax under the head interest on securities:- (i) interest on any security of the Central or State Government. (ii) interest on debentures or other securities for money issued by or on behalf of a local authority or a company or a corporation established by a Central, State or Provincial Act. (2) Nothing contained in sub-section (1) shall be construed as precluding an assessee from being charged to income-tax in respect of any interest on securities received by him in a previous year if such interest had not been charged to income- tax for any earlier previous year. S.19. Deductions from Interest on securities- Subject to the provisions of section 21, the income chargeable under the head “Interest on securities” shall be computed after making the following deduction- (i) any reasonable sum expended by the assessee for the purpose of realising such interest; (ii)any interest payable on moneys borrowed for the purpose of investment in the securities by the assessee. S.20 Deductions from interest on securities in the case of a banking company-(1) In the case of a banking company- (i) the sum to be regarded as a sum reasonably expended for the purpose referred to in clause (i) of section 19 shall be an amount bearing to the aggregate of its expenses as are admissible under the provisions of sections 30, 31, 36 and 37 (other than clauses (iii), (vi), (vii) and (viia) of sub-section (1) of section 36) the same proportion as the gross receipts from interest on securities (inclusive of tax deducted at source) chargeable to income-tax 6 under section 18 bear to the gross receipts of the company from all sources which are included in the profit and loss account of the company; (ii)the amount to be regarded as interest payable on moneys borrowed for the purpose referred to in clause (ii) of section 19 shall be an amount which bears to the amount of interest payable on all moneys borrowed by the company the same proportion as the gross receipts from interest on securities (inclusive of tax deducted at source) chargeable to income-tax under section 18 bear to the gross receipts from all sources which are included in the profit and loss account of the company. (2) The expenses deducted under clauses (i) and (ii) of sub-section (1) shall not again form part of the deductions admissible under sections 30 to 37 for the purposes of computing the income of the company under the head “Profits and gains of business or profession”. Explanation-For the purposes of this section, “moneys borrowed” includes moneyes received by way of deposits. S. 21. Amounts not deductible from interest on securities-Notwithstanding anything contained in sections 19 and 20, any interest chargeable under this Act which is payable outside India (not being interest on a loan issued for public subscription before the 1st day of April, 1938) on which tax has not been paid or deducted under Chapter XVII-B, and in respect of which there is no person in India who may be treated as an agent under section 163 shall not be deducted in computing the income chargeable under the head “Interest on securities.” After deletion of the above provisions, the income earned by the bank by way of interest is chargeable under Section 28(i) as income under the head “profits and gains of business or profession”. Then, a look at Section 36(1) 7 (iii) does show, that the deduction parimateria in terms of erstwhile Section 19 is admissible under this clause. For the present purpose Section 20 and 21, as they earlier existed are not relevant for the present controversy. It is in this background, that the learned Tribunal has set aside the order of the Commissioner passed in revision under Section 263, by holding, that DCIT has thoroughly examined the case of the bank, and after discussion on various points, AO had allowed the claim of the assessee. It was found, that the Assessing Officer had examined the facts of the case, and he has applied mind. Then, it was considered, that the judgment in Vijaya Bank Ltd.'s case is not applicable in this case, as that judgment was based on the interest income assessed under sections 18 to 21, which have been omitted w.e.f. 1.4.89, and therefore, these sections are not applicable for the assessment years 1990-91 onwards. Then, reference has been made to the judgment in American Express Banking Corporation Vs. CIT reported in 258 ITR-601, which has held that Vijaya Bank's case is only with respect to Section 18,and is not applicable in the circumstances, when the income is assessed under Section 28, and that, it has been held, therein, that the Department ought to have taxed interest for the broken period interest received, and the Department ought to have allowed deduction, for the broken period interest paid. With this it has been found, that 8 since the interest received for the broken period has been taxed under Section 28, therefore, deduction has rightly been allowed for the interest paid for broken period for all these years. It has also been considered, that as per Section 29 of the Banking Regulation Act, 1949 read with Schedule III, shares and securities, though stock-in-trade, are to be shown as investment. This investment represents as stock-in-trade, because the entire shares and securities are stock-in-trade, as the bank deals in shares and securities, as per Banking Regulation Act, 1949 as well as Memorandum of Association of the company. Thus shares and securities are stock-in-trade. In the case of the bank an investment represents in Balance Sheet which, in fact, is stock-in-trade, for all practical purposes. Then, certain other judgments of the Tribunal were relied upon, for holding, that if the securities are held as stock-in-trade, the entire consideration including the interest element is allowable as revenue deduction, by way of cost of purchases. Thus, following the judgment in American Express International Banking's case, the order of the learned CIT passed under Section 263 was quashed. A look at the judgment in Vijaya Bank's case does show, that of course that judgment did consider the provisions of Section 18, as they existed at that time, but then, a look at the question framed therein, does show, that the precise question was, as to whether deduction 9 could be claimed under Sections 19, 20 and 37 of the Income Tax Act, for the amount of Rs. 58,568, being interest accrued on securities taken over by the assessee bank, from Jayalakshmi Bank Ltd., and Rs. 11,630/- being the interest accrued up to the date of purchase, in the case of securities purchased by the assessee bank from the open market, and relying upon English judgment in CIR Vs. Pilcher, reported in (1949) 31 TC-314, 332(CA) wherein it was held, that it is a well settled principle, that outlay on the purchase of an income-bearing asset, is in the nature of capital outlay, and no part of the capital, so laid out can, for income-tax purposes, be set off as expenditure, against income accruing from the asset in question, and it was held, that in that instant case, the assessee purchased securities, and the price paid for the securities was determined with reference to their actual value as well as the interest, which had accrued on them till the date of purchase, and it was found, that the fact remains, that whatever was the consideration, which prompted the assessee to purchase the securities, the price paid for them was in the nature of a capital outlay, and no part of it can be set off as expenditure against income accruing on those securities. Subsequently, when these securities yielded income by way of interest, such income attracted section 18. Thus, the claim for deduction was found to be not allowable. 10 Then, a look at the judgment in American Express International Banking Corporation's case shows, that it does look into the judgment in Vijaya Bank's case, and substantially proceeds on the aspect, of method of accounting adopted by the bank concerned. Then, it was considered, that since at the time when the security was sold, the assessee did receive an amount representing interest for the broken period, as was paid by the assessee also, and therefore, when the assessee is taxed on the amount received by the assessee at the time of sale of the security on entire amount of interest component thereof, not allowing deduction for the broken period interest, paid by the assessee, would result into double taxation. Therefore, it was held to be an allowable deduction. To precisely quote the words used in the said judgment, which reads as under:- “In the present case, as held by the Tribunal, the Department has proceeded to compute the entire income under section 28. In this case, the Department has sought to tax the broken period interest received under the head “Business” and not under the head “Interest on securities”, ......Once the Department seeks to assess broken period interest under the head “Business”, then the Department could not have rejected the impugned adjustment in the method of accounting adopted by the bank unless the Department was in a position to prove that the method adopted by the bank did not disclose the true and proper income....” 11 In our view, so far as taxability of income from interest by the assessee, so also entitlement to claim deduction, is a matter, with regard to which there is no material or significant difference, consequent upon deletions of the provisions of Section 18 and 19, obviously Section 20 and 21 are not relevant for the present purpose. That being the position, the ratio propounded in Vijaya Bank's case, even though it proceeds on consideration of the then provisions of Section 18 and 19, still does hold good. Then we take up the judgment in American Express International Banking's case. A reading of that judgment shows that, reasons given by the Bombay High Court, for distinguishing the judgment in Vijaya Bank's case proceed on a different line of reasoning. While in our view, when the Supreme Court Judgment proceeds on the established legal principle, deduced from previous English judgment. With all humility at our command, we feel bound by the ratio laid down in Vijaya Banks' case. Even otherwise, so far as the reasonings in American Express International Banking's case is concerned, we do not find ourselves able to agree with the reasonings, inasmuch as, if carried to logical conclusion, it permits a postmortem of the purchase component of the asset, and permits deduction of interest element paid, as business expenditure. We are afraid on the face of the judgment in Vijaya Bank’s case this cannot be 12 said to be permissible. Thus, in view of the ratio laid down in Vijaya Bank's case, which very much applies to the circumstances and facts of the present case, the judgment of the learned Tribunal cannot be sustained. Consequently, the questions framed in all the four cases, are answered as above, in favour of the revenue, and against the assessee. The appeals are allowed. The order of the learned ITAT is set aside, and that of the Commissioner is restored. ( DEO NARAYAN THANVI ),J. ( N P GUPTA ),J. /Sushil/