The Judgment of the Court was delivered by

Sabyasachi Mukharji, J.:— The assessee is a limited company. The reference relates to the assessment years 1968–69 and 1969–70. The assessee-company was incorporated on 18th May, 1961, with the object of carrying on the business of hotels, restaurants, cafes, holiday camps, etc. Later on, by an order of the High Court at Calcutta passed on 21st November, 1963, M/s. A. Firpos Ltd. was amalgamated with the assessee-company and in this way the assessee-company took over the hotel business of M/s. A. Firpos Ltd. with effect from 1st November, 1963. There was a building belonging to the Life Insurance Corporation of India at No. 12, Chowringhee Road, and No. 1 Chowringhee Place, which was formerly leased out to M/s. Ritz Pvt. Ltd. for a period of 15 years with effect from 1st December, 1958. There was an agreement between the Life Insurance Corporation of India and the Ritz Pvt. Ltd. whereby the Life Insurance Corporation of India had agreed to effect additions and alterations to the building at the cost Rs. 30,00,000 in return from Ritz Pvt. Ltd. for giving vacant possession the premises with effect from 1st August, 1960, and the Life Insurance Corporation of India not charging any rent from the date of vacation ??? the premises by an agreement dated 6th March, 1961. Later on, this agreement was cancelled and the assessee-company simultaneously entered if an agreement with the Life Insurance Corporation of India on 30th May, 1963, whereby the Life Insurance Corporation of India agreed to reconstruct, remodel and enlarge the existing building at the cost of approximately Rs. 52,00,000 which was to be given on lease to the assessee-company on completion on the terms and conditions mentioned in the agreement. The recital of the agreement, inter alia, provided as follows:

“9. Ritz will pay to the LIC interest at the rate of 3% per annum on all amounts expended or deemed to be expended by LIC from 1st August, 1960, in respect of and on such reconstruction at the end of every quarter until new and remodelled building shall be complete in all respects, the interest to be chargeable on the monthly balance of such expense at the end of every month as certified by LIC.”

2. The agreement further provided, inter alia, as follows:

“6. The rent of the remodelled and enlarged building shall on the remodelling and enlargement work being completed be calculated and worked out at such an amount as is equivalent to:

(a) A net yield of 7 per cent. per annum on the total costs, charges and expenses incurred (or which may be incurred as provided hereafter or which may be deemed to be incurred) by the LIC in the remodelling and enlargement of the building and the construction work consequent thereupon including the several items referred to in these presents in clauses 4 and 5 hereof and to be included in the costs of remodelling and enlargement and also all other costs, charges and expenses in relation to or in respect of this agreement or the lease of the premises and also all architectural and engineering charges including the professional fees of all consultants, specialists and supervisors appointed by the LIC and also the LIC's own Buildings Department costs and office charges attributable in the opinion of the LIC to the work to be carried on subject in the case of said Buildings Department costs and office charges to a minimum of 121/2% of the total costs.

(b) The sum of Rs. 5,482 (rupees five thousand four hundred and eighty-two) per. month (which was the rent received by the LIC from Ritz Private Limited) and Rs. 483’87 (Rupees four hundred and eighty-three and eighty-seven naye paise only) per month which was the rent received from four tenants who have vacated and the difference between the rent of Rs. 2,500 (Rupees two thousand five hundred) per month paid by the Kashmir Emporium and the rent or fee per month which it has agreed to pay for the premises in the remodelled building to be offered to it.

(c) The following payments shall be in addition to the aforesaid rent, namely;

(i) Sinking Fund contribution payable until 100% of the cost is covered at the rate of 034610 per cent. per annum on the total costs, charges and expenses incurred except in regard to the costs, charges and expenses incurred for lifts and water pumps, sanitary and plumbing installation, electric wiring, air conditioning ducts, transformers and switch gear, tube-well and water softening plant and the fixing thereof on the premises.

(ii) Sinking Fund contribution payable until 100% of the total cost is covered at the rate of 3.53611 per cent. per annum on the total costs, charges and expenses incurred for all lifts, transformers and water pumps and the fixing thereof on the premises.

(iii) Sinking Fund contribution payable until 100% of the cost is covered at the rate of 5.1835 percent. per annum on the total costs, charges and expenses incurred for switch gear, water supply and sanitary fittings and electrical wiring and the fixing thereof on the premises.

(iv) Sinking Fund contribution payable until 100% of the cost is covered at the rate of 8.58414 per cent. per annum on the total costs, charges and expenses incurred for air conditioning ducts, tube-well and water softening plant and the fixing thereof on the premises. The Fourth Schedule hereto shows the Sinking Fund contribution to be made in respect of the various items mentioned above.

(v) Insurance premium to cover risks of fire, tempest, earthquake and riot and civil commotion with the Oriental Fire and General Insurance Company Limited, in such amount as will enable the LIC to rebuild the premises or replace any damage done (i.e, replacement value).

(vi) The rates, assessments, cesses and taxes (including any increase that may be made therein from time to time), whether levied by the Government or any other authority, municipal, local or other and whether payable by the landlord or tenant in respect of the whole of the said property and the costs, charges and expenses (between attorney and client) of all appeals against any such assessments or other proceedings in connection with the same.”

3. It appears that one of the terms of the agreement was that the assessee-company had to pay to the Life Insurance Corporation of India interest at the rate of 3% on all amounts spent or deemed to have been spent by the Life Insurance Corporation of India from 1st August, 1960, in respect of and on such construction at the end of every quarter until a new and remodelled building was complete in all respects when it was to be given to the assessee-company on lease for a period of 15 years commencing from the date the building was certified fit for occupation and possession was given to the assessee-company. The building was completed early in 1971 and was given on lease to the assessee-company some time in March, 1971. The interest at 3% which came to Rs. 88,910 for the assessment year 1968–69 and Rs. 1,08,648 for the assessment year 1969–70 were described by the assessee-company as rent in the profit and loss account and the amounts were claimed as such as deduction in the computation of business income. The Income-tax Officer, however, held that this expenditure was in the nature of capital expenditure and should not be allowed as deduction in the computation of the business income. The assessee preferred an appeal before the Appellate Assistant Commissioner and the Appellate Assistant Commissioner upheld the disallowance of the Income-tax Officer. The assessee thereupon preferred an appeal before the Tribunal. The issue before the Tribunal was whether the interest paid in terms of the agreement relating to the assessment years 1968–69 and 1969–70 should be allowed as deduction in the computation of the business income.

4. It was contended before the Tribunal that the amounts in question though described as interest were in the nature of rent and not advance rent and should have been allowed. The Tribunal held that the substance of the matter might be looked into but for this purpose the legal character of the transaction should not be ignored. The Tribunal was unable to accept the contention that the amounts were in the nature of rent. The Tribunal further observed that the payments to the Life Insurance Corporation of India were in connection with the setting up of the new hotel which actually started in July, 1971, under the name of Ritz Continental and not for the extension or expansion of the existing hotel business under the name of A. Firpos Ltd. The Tribunal further held that these expenses could not be said to be in connection with the expansion of the existing business and these expenses, according to the Tribunal, were in connection with the business which had not commenced till the end of the previous year under consideration. Therefore, the Tribunal came to the conclusion that the amounts could not be treated as expenditure relating to the business which had commenced. The Tribunal, therefore, came to the conclusion that the expenditure in computing the income from the existing hotel business was rightly disallowed by the Income-tax Officer and, on this aspect, the Tribunal, therefore, dismissed the appeal of the assessee.

5. Under section 256(1) of the Income-tax Act, 1961, the Tribunal has referred the following question to this court:

“Whether, on the facts and in the circumstances of the case, and ???on a proper construction of the agreement dated 30th May, 1963, between the assessee-company and the Life Insurance Corporation of India, the Appellate Tribunal was justified in holding that the payment by the assessee-company in terms of clause 9 of the said agreement amounting to Rs. 88,910 for the assessment year 1968–69 and Rs. 1,08,648 for the assessment year 1969–70 was correctly disallowed in the computation of the business income of the assessee-company?”

6. On behalf of the assessee it was urged before us that the true nature of the expenses was not so much as advance rent but is interest on the amount borrowed for running of the business. It was urged that even if it was contended that the amount which was borrowed was capital, an assumption which was not conceded, then also on borrowed capital interest should be allowed on the facts and circumstances of this case. On behalf of the assessee reliance was placed on section 36(1)(iii) as also on section 37 of the Income-tax Act, 1961, in claiming deductions of the amounts mentioned hereinbefore. Reliance was placed in this connection on the decision of the Supreme Court in the case of State of Madras v. G.J Coelho, [1964] 53 ITR 186. There the respondent-company had claimed that in computing his agricultural income from his plantations, the entire interest paid by him on moneys borrowed for the purpose of purchasing the plantations should be deducted as expenditure laid out or expended wholly or exclusively for the purpose of the plantations under section 5(e) of the Madras Plantations Agricultural Income-tax Act, 1955. It was held by the Supreme Court that the interest was not capital expenditure as no new asset was acquired or enduring benefit obtained as a result of the payment of interest. The Supreme Court at page 191 of the report observed that on the facts of that case no new asset was acquired and no enduring benefit was obtained. Expenditure incurred was part of circulating or floating capital of the assessee. In ordinary commercial practice, payment of interest would not be termed as capital expenditure. The Supreme Court observed that, in principle, there was no distinction between interest paid on capital borrowed for the acquisition of a plantation and interest paid on capital borrowed for the purpose of existing plantations. There, however, no question arose as to whether the new plantation was part of the existing business carried on by the assessee or not. Reliance was also placed on the decision in the case of India Cements Ltd. v. Commissioner Of Income Tax, Madras., [1966] 60 ITR 52 (SC). There the assessee had obtained a loan of Rs. 40 lakhs from the Industrial Finance Corporation and secured the same by a charge on its fixed assets. In connection therewith it had spent a sum of Rs. 84,633 towards stamp duty, registration fee, lawyer's fees, etc., and it had claimed that amount as business expenditure. It was held that the amount spent was not in the nature of capital expenditure and was laid out or expended wholly and exclusively for the purpose of the assessee's business and was, therefore, allowable as deduction under section 10(2)(xv) of the Indian Income-tax Act, 1922. The court further held that the act of borrowing money was incidental to the carrying on of business. The loan obtained was not an asset or an advantage of enduring nature. The expenditure was made for securing the use of money for a certain period, and it was irrelevant to consider the object with which the loan was obtained. Counsel also drew our attention to the decision in the case of Commissioner Of Income-Tax, Orissa v. J.N Bhowmick, [1978] 111 ITR 747 (Orissa). There the question was whether certain expenses were capital or revenue. The assessee had taken on lease a premises for running a hotel. Under the covenant the assessee was obliged to raise structure which was to vest in the landlord on the expiry of the lease. It was held that the failure to construct would have entailed forfeiture of the lease. The amount spent on construction was, therefore, held to be revenue expenditure. The facts of that case were entirely different and it is not necessary for the purpose of the question before us in the instant reference to discuss the aforesaid decision in any detail. Counsel also drew our attention to the decision of the Madras High Court in the case of Commissioner of Income-tax v. T.V Sundaram Iyengar & Sons Pvt. Ltd., [1974] 95 ITR 428, where the assessee-company had purchased land in the name of the District Collector, Madurai, for the purpose of constructing houses for the company's workers by the Government under the subsidised industrial housing scheme sponsored by the State Government and had claimed the sum of Rs. 39,696 being the purchase price as a deduction under section 10(2)(xv) of the Indian Income-tax Act, 1922, as being in the nature of welfare expenses. The departmental authorities rejected the claim but the Tribunal upheld the claim on the ground that the expenditure was incurred wholly and exclusively for the purpose of the business of the assessee and the assessee had not acquired any capital asset of an enduring nature nor had any enduring benefit accrued to the assessee by the purchase. It was, in those circumstances, held that the expenses were incurred wholly and exclusively for the purpose of the business of the assessee-company and were, therefore, allowable as revenue expenditure.

7. But the main difficulty in the instant case is not whether the expenses should be allowed either as being necessary for the carrying on of the business or because being interest on borrowed capital under section 36(1)(iii) of the Income-tax Act, 1961, but the main difficulty is that the Tribunal has found as a fact that the expenses were not in connection with any business carried on by the assessee in the year in question but were in connection with the setting up of a new hotel which had not commenced business at the end of the relevant previous year. It is well settled that in order to ??? allowable the expenses must partake the source of profit which is taxable. ??? order to be allowable as expenses it should be in respect of business which was carried on by the assessee and the profits of which are computed and assessed and should be incurred after the business is set up. Here the Tribunal has found that the expenses were in connection with or related to a business which was yet to commence and which actually commenced business in July, 1971. Whether the business of running the restaurant of A. Firpos Ltd., which the assessee had taken over in the relevant year, was the same business carried on by the assessee was a question or a contention not raised before the Tribunal. At this stage, therefore, it is not possible to entertain this argument urged on behalf of the assessee that the business in effect that was carried on by the assessee in running the restaurant in the name of A. Firpos Ltd., was the same business that the assessee was carrying on and the expenses that were incurred for setting up this new hotel were expenses in connection with the expansion of the existing business carried on by the assessee. In the case of Commissioner of Income-tax v. Sarabhai Sons Pvt. Ltd., [1973] 90 ITR 318 (Guj), the Division Bench of the Gujarat High Court was concerned with the similar question. There the Division Bench observed that there is a clear distinction between commencing a business and setting it up. For the purpose of section 3(1)(d) of the Income-tax Act, 1961, what was required to be considered was the setting up of the business. When a business was established and was ready to start business, it could be said to have been set-up. The business must be put into such a shape that it could start functioning as a business or as a manufacturing organisation. There the assessee, a private limited company, had decided to start a new business for the manufacture of scientific instruments and communication equipment. It had placed orders for machinery and equipments in January, 1966, and some of the machinery were received in February, 1966. It also placed orders for new materials and stores and took on lease premises from ah industrial estate. Those preparations went on and in July, 1966, the machinery was installed and production was commenced. The assessee claimed to deduct a sum of Rs. 16,237 spent in connection with the new business during the period ending on 31st March, 1966, for the assessment year 1966–67. It was held, on the facts, that the new business could not be said to be ready to discharge the function for which it was established, namely, the manufacture of scientific instruments and communication equipment until the machinery necessary for the purpose of manufacture was installed. Their Lordships held that the revenue expenditure incurred before that date could not be permissible deduction in the assessment for the assessment year 1966–67. In the case of Western India Vegetable Products Ltd. v. Commissioner of Income-tax, [1954] 26 ITR 151 the Bombay High Court reiterated the same princi??? and held that in that case the company had actually commenced business only on the 1st November, 1946, when it purchased the groundnut oil mill. But prior to that date there was a period when the business could be said to have been set up and the company was ready to commence business and that there was evidence before the Tribunal to hold that the assessee-company had set up its business as from 1st September, 1946. In the case of L.M Chhabda & Sons v. Commissioner of Income-tax, [1961] 65 ITR 638 the Supreme Court was considering this aspect of the matter. There the assessee was carrying on the business of exhibiting cinematograph films in Ahmedabad and Bombay. The lease in respect of one cinema theatre, the Prakash Talkies, had expired in 1952, and thereafter the landlord had filed a suit in ejectment against the appellants and obtained a decree for possession and an order for payment of mesne profits. Out of the mesne profits paid by the appellants, they had claimed deduction of the sum of Rs. 92,240 in determining their business income for the calendar year 1954, relevant to the assessment year 1955–56. The Income-tax Officer disallowed the claim on the ground that the business of Prakash Talkies was not carried on by the assessee during the year 1954. The Tribunal affirmed the disallowance holding that the cinema theatres acquired by the assessee from time to time on lease or otherwise were run independently of one another and with separate identifiable books and that the opening of a new theatre or closure of another did not affect the working of the remaining theatres. It was held on the facts that it could not be said that the venture of Prakash Talkies was a part of a general business of exhibiting films carried on by the appellants and that, therefore, in the view of the Supreme Court, the sum of Rs. 92,240 was not an allowable deduction in computing the appellants’ business income for the assessment year 1955–56. From the mere circumstances that the result of the accounts of the different ventures was entered in the accounts maintained at the head office, no inference necessarily arose that the exhibition of films in different theatres constituted the same business. There is no such general principle, the Supreme Court reiterated, that where an assessee carries on business ventures of the same character at different places it must be held as a matter of law that the ventures are part of a single business. Whether different ventures carried on by the assessee formed parts of the same business must depend on the facts and circumstances of each case, and it is for the assessee to establish that the different ventures constituted parts of the same business. If an assessee carried on several distinct and independent businesses, and one of such businesses was closed before the previous year, he could not claim allowance under section 10 of the Indian Income-tax Act, 1922, of an outgoing attributable to the business which was closed against the income of his other business in that year. The said decision was considered by the Madras High Court in the case of I.S & C. Machado v. Commissioner Of Income-Tax, Madras, [1970] 75 ITR 38. There the Division Bench of the Madras High Court held that in the case of several businesses run by an assessee, each of a distinct nature, though the head of business was the same, each business had to be taken as a separate unit for the purpose of ascertainment of profits. Expenditure under section 10(1) was allowed not as a deduction or as allowance but as the component inherent in the process of ascertainment of the profits, namely, arriving at the net result of credits and debits referable to a particular independent activity of business. The expenditure should partake of the very source of profit, namely, the particular business activity and it was taken into account as an outgoing in ascertaining the profits. The aggregation of the profits derived from several independent business activities could make no difference to the particular phenomenon involved in the process of ascertaining the profits from each business activity. In the case before the Madras High Court, the disallowance by the departmental authorities and the Tribunal of the claim of the assessee-firm to set off a sum of Rs. 31,820 paid in discharge of a decree in respect of its country craft route agency business, which had been discontinued, against the profits of its petroleum agency business, which had not been discontinued, was upheld by the High Court.

8. So far as the question of borrowing is concerned, in the case of Bombay Steam Navigation Company (1953) P. Ltd. v. Commissioner of Income-tax, [1965] 56 ITR 52, the Supreme Court held that the expression “capital” used in section 10(2)(iii) of the 1922 Act, similar to section 36(1)(iii) of the present Act, meant money and not any other asset. There was in truth no capital borrowed by the assessee in that case where an agreement to pay the balance of consideration due by the purchaser did not in truth give rise to a loan. Therefore, the claim for deduction of the amount of interest under section 10(2)(iii) of the 1922 Act was not admissible. In that case, however, the interest was allowed under section 10(2)(xv), because the assessee had in fact carried on business in the year in question. The facts in the instant case are different. In this case, in my opinion, deduction in order to be allowed as the amount of interest paid in respect of the capital borrowed for the purposes of the business or profession must be of an existing business. In this case, as the business was not set up, no question of allowance under clause (iii) of sub-section (1) of section 36 arose. Counsel for the revenue drew our attention to a decision in the case of Commissioner of Income-tax v. Menora Hosiery Works Pvt. Ltd., [1977] 109 ITR 714 (Bom). The facts of that case were entirely different. In the context of the facts, the Division Bench of the Bombay High Court held that the expenditure that was incurred by the assessee for making construction on property was capital expenditure inasmuch as its aim and object was bring into existence an enduring advantage, though not everlasting, ??? was, therefore, not allowable as a deduction in the computation of the business income. It is not necessary for us to examine this decision in detail. Counsel for the assessed, however, drew our attention to the decision of the Allahabad High Court in the case of Prem Spinning and Weaving Mills Co. Ltd. v. Commissioner of Income-tax, [1975] 98 ITR 20 and contended that there was unity of control in this case and, therefore, the business of the assessee should be considered to have been carried on while the assessee was carrying on the business of restaurant of A. Firpos Ltd. and, therefore, the expenses should be considered to be expenses in connection with the expansion of the existing business. Whether this was a part of the new business or not was a fact which was for the assessee to establish, which fact the assessee made no attempt to establish before the revenue authorities. In view of the ratio of L.M Chhabda & Sons v. Commissioner of Income-tax, [1967] 65 ITR 638 (SC), it is not possible for us to uphold the contention of the assessee even if he is allowed to agitate this question under the frame of a question referred to this court, a matter on which we entertain grave doubts.

9. In the premises, we are of the opinion, that the Tribunal was right in disallowing the expenses claimed in the computation of business income and the question is, therefore, answered in the affirmative and in favour of the revenue. The parties will pay and bear their own costs.

Sudhindra Mohan Guha, J.:— I agree.