Understanding the Treatment of Interest on Debt for Fixed Assets Under Indian Income Tax Law

Introduction

In the context of Indian tax law, the treatment of interest on debt used for the purchase of fixed assets has been a topic of significant legal scrutiny. Under the Income Tax Act, 1961, particularly Section 36(1)(iii), the question often arises whether such interest should be considered a deductible business expense. Over the years, Indian courts have provided clarity through various judgments, helping businesses understand how to treat such interest expenses in their tax filings.

Key Judicial Precedents

1. India Cements Ltd. v. CIT (1966) 60 ITR 52 (SC)

The landmark case of India Cements Ltd. v. CIT set the foundation for understanding the treatment of interest on borrowed capital. The Supreme Court of India, in its judgment dated 17 November 1965, held that the interest on borrowed funds used for the acquisition of capital assets is deductible as a business expenditure under Section 36(1)(iii) of the Income Tax Act, 1961. The Court emphasized that the purpose of the loan—whether for capital or revenue expenditure—is irrelevant. The crucial factor is whether the borrowed funds are utilized for the purposes of the business. This case established that such interest is not capital expenditure but is instead considered a revenue expense, making it deductible.

Reference: Indian Kanoon

2. DCIT v. Core Healthcare Ltd. (2008) 298 ITR 194 (SC)

The Supreme Court revisited the issue in DCIT v. Core Healthcare Ltd. in a judgment delivered on 3 January 2008. The Court reaffirmed that interest on borrowed funds for acquiring capital assets is deductible from the time the capital is borrowed until the asset is put to use. This ruling clarified that such interest is deductible even if the assets are not yet operational, thus further cementing the deductibility of interest on borrowed capital used for purchasing fixed assets.

Reference: Indian Kanoon

3. CIT v. L.G. Balakrishnan & Bros. Ltd. (1997) 225 ITR 935 (Mad)

In the case of CIT v. L.G. Balakrishnan & Bros. Ltd., the Madras High Court held on 17 April 1997 that interest on money borrowed for business purposes, even if used for acquiring capital assets, is deductible under Section 36(1)(iii). The Court’s decision supported the principle that interest on loans used for capital expenditure should be treated as a revenue expense and thus, deductible.

Reference: Indian Kanoon

4. CIT v. Sivakami Mills Ltd. (1979) 120 ITR 211 (Mad)

In CIT v. Sivakami Mills Ltd., the Madras High Court further reinforced this understanding. On 16 November 1978, the Court held that interest paid on borrowings used to acquire a capital asset is not considered capital expenditure and is therefore deductible. This judgment highlighted that the nature of the expenditure (capital or revenue) does not alter the deductibility of the interest paid on borrowed funds for the purpose of acquiring fixed assets.

Reference: Indian Kanoon

5. CIT v. Gujarat State Fertilizers & Chemicals Ltd. (2013) 356 ITR 190 (Guj)

The Gujarat High Court, in its judgment dated 22 January 2013, reiterated the consistent judicial view in CIT v. Gujarat State Fertilizers & Chemicals Ltd. The Court held that interest on borrowed funds used for the purchase of assets is allowable as a deduction, even if the asset is not immediately put to use in the business. This case underscored that the application of borrowed funds towards fixed assets does not disqualify the interest for deduction under the Income Tax Act.

Reference: Taxmann

Recent Developments

A more recent case that continues this trend is the 2020 judgment of CIT v. Gujarat State Fertilizers & Chemicals Ltd. by the Gujarat High Court. On 26 February 2020, the Court ruled that interest paid on borrowed funds used for acquiring fixed assets is deductible under Section 36(1)(iii) of the Income Tax Act, 1961. Importantly, the Court clarified that this deduction is permissible even if the assets purchased with the borrowed funds are not yet operational. This judgment is particularly relevant for businesses financing capital assets through loans, as it confirms the deductibility of interest expenses regardless of whether the assets are in use during the year of borrowing.

Reference: Taxmann

Conclusion

The treatment of interest on debt used for the purchase of fixed assets as an application of income has been consistently interpreted by Indian courts in favor of allowing such interest as a deductible business expense. The courts have emphasized that the purpose of the borrowing and the timing of the asset's use do not alter the nature of the interest expense. These judgments provide crucial guidance for businesses, ensuring that interest on borrowed funds for acquiring fixed assets remains a deductible expense under the Income Tax Act, 1961.

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Article Compiled by:-

~Mayank Garg

(LegalMantra.net Team)

Disclaimer: Every effort has been made to avoid errors or omissions in this material in spite of this, errors may creep in. Any mistake, error or discrepancy noted may be brought to our notice which shall be taken care of in the next edition In no event the author shall be liable for any direct indirect, special or incidental damage resulting from or arising out of or in connection with the use of this information Many sources have been considered including Newspapers, Journals, Bare Acts, Case Materials , Charted Secretary, Research Papers etc.