Refund of excise and custom duties on Purchase of Raw Material and Capital Equipment used in Capital WIP is Capital Receipt

Citation of The Case:

CIT vs. Maithon Power Ltd., (Delhi HC), IT Appeal No. 5/2015, AY 2009-10, Date of  Pronouncement-July 21, 2015

Brief of the case:

The Hon’ble Delhi High Court in the case of Maithon Power Ltd. vs. CIT concluded that:

The expenditure incurred to set up operations forms the part of capital work in progress and thus, the subsequent reimbursement of any part thereof would be a capital receipt which will get reduced from the amount capitalized under the capital WIP.
Thus, the drawback of excise and custom duties would also be the capital receipts which would reduce the capitalized cost of the project.
Facts of the case:

The assessee company was engaged in execution of a project of setting up a thermal power generation plant at Maithon, Jharkhand. The project was at the stage of construction and installation of power plants.
The assessee was required to pay excise and custom duties on purchase of raw materials & capital equipments. The assessee applied for refund claim of some part of duties which was approved by DGFT as a part of export benefits under the Foreign Trade Policy.
The AO sought to tax the refund of Rs. 1059.35 lacs approved by the DGFT by invoking the provisions of Sec 28(iiic).
The addition made by the AO was challenged by the assessee before the CIT (A) who allowed assessee’s appeal by holding that the excise duties were the part of project cost and the reimbursement thereof as export benefits would reduce the cost of project (i.e. it will reduce the amount to be capitalized in respect of the project). The ITAT also concurred with the findings of the CIT (A).
Now, the revenue is in appeal before then Hon’ble High Court against the decision of ITAT.
Contention of the Revenue:

The learned counsel for the revenue supported the order of the AO by arguing that the assessee has claimed nothing but the drawback of excise and custom duties which is taxable as business income under sec 28(iiic).
The assessee has also claimed the depreciation on the cost of equipments which included the excise and custom duties. Thus, the double benefit as  claimed made it necessary to tax the drawback under sec 28(iiic).
Contention of the Assessee:

The learned counsel for the assessee contended that the excise and custom duties has been charged to capital work in progress in the books of accounts and the depreciation was claimed inadvertently on them in FY 2008-09(AY 2009-10) , which was subsequently reversed in FY 2009-10(AY 2010-11).
The project undertaken by the assessee not commenced in FY 2008-09, therefore, the accounting treatment of capitalizing all the costs under capital work in progress was correct (without claiming depreciation in the books and return).
For taxing the drawback under sec 28 (iiic) , the excise duty repaid to the assessee as drawback should have been revenue receipt in the hands of assessee in order to be chargeable to tax under business income.
In the present case, however, it relates to the cost of acquisition of a capital asset which forms part of the overall project cost incurred in the pre-commissioning phase of the project. The duty drawback would therefore to that extent reduce the project cost and therefore cannot, in the AY in question, be treated as business income.
Decision of the Hon’ble High Court:

The Hon’ble High Court relied on the judgments of the Hon’ble Supreme Court in the cases of CIT vs. Challapalli Sugars Ltd. and CIT v. Bokaro Steel Ltd wherein the court concluded that any expenditure incurred before the commencement of operations can be capitalized and added to the cost of the fixed assets which have been created as a result of such expenditure.
Thus, in the present case since the operations had not commenced, the drawback claim would go to ultimately reduce the cost of the project and had therefore to be treated as a capital receipt.
The appeal was decided in the favour of the assessee.

By CA Saurabh Chokhra