George George K., J.M:— This appeal instituted by the assessee is directed against the order of the CIT(A)-LTU, Bangalore dated 27/09/2010. The relevant asst. year is 2007-2008.

2. The assessee has raised four grounds of appeal. The first ground is general in nature and requires no adjudication and hence, the same is dismissed.

3. The fourth ground was not pressed in the course of hearing. Hence, the same is dismissed as not pressed.

4. The remaining grounds, namely, ground nos. 2 and 3 reads as follows:—

2) The learned CIT(A) erred in holding that Rs. 37,12,129/- as capital expenditure.

3. The learned CIT(A) has failed to appreciate that Rs. 37,12,129/- is in the nature of business expenditure and allowable as revenue expenditure.

5. The facts in relation to the above grounds are as follows:—

The assessee is a company. It is a Karnataka State Government Undertaking. It is engaged in the business of transmission of electric energy. For the concerned assessment year, return of income was filed on 30.10.2007 disclosing an income of Rs. 38,92,12,664/-. The assessment was completed vide order dated 11/12/2009 under section 143(3) of the Act. The assessee had incurred an expenditure of Rs. 37,12,129/- towards identification, survey and feasibility studies of projects. For the reasons like non-viability, non-feasibility and due to defects in location etc., the projects were not put through. Such of these expenses were written off to profit and loss account. The Assessing Officer while completing the assessment had treated the expenditure as capital in nature and disallowed the same.

5.1 The Assessing Officer was of the view that the expenditure was incurred with an intention to create a capital asset; therefore, the expenditure would be capital in nature inspite of the project being dropped midway. The Assessing Officer relied on the following judgements:—

• Assam Bengal Cement Co. Ltd. v. CIT, 27 ITR 34 (SC);

• CIT v. Bazpur Co-operative Sugar Factory Ltd., 142 ITR 1 (All);

• Fancy Corporation Ltd. v. CIT, 162 ITR 827 (Bom.);

• East India Commercial Co. P. Ltd. v. CIT, 54 ITR 81 (Cal.);

• CIT v. Digvijay Cement Co. Ltd., 159 ITR 253 (Guj.);

• Triveni Engineering Works Ltd. v. CIT, 232 ITR 639 (Del.);

• Commissioner Of Income-Tax v. Ambica Mills Ltd., 147 ITR 340 : 236 ITR 921 (Guj.).

5.2 The Assessing Officer finally concluded by holding thus:—

“Considering these facts, I have to hold that the amount of Rs. 37,12,129/- spent by the assessee for obtaining feasibility/survey reports and debited in the books under the head “infructuous capital expenditure written off”, is capital in nature. Accordingly, this amount is disallowed and added back to the income declared”.

6. The assessee, being aggrieved, carried the matter in appeal before the first appellate authority.

7. The CIT(A) for her detailed reasoning contained in pages 7 to 11 of the impugned order, dismissed the appeal of the assessee.

8. The learned counsel for the assessee had filed written submissions dated 8/12/2011. It was contended by the learned AR that the expenditure incurred was not on account of commencement or construction of new project. It was submitted that no asset has been brought into existence and no enduring benefit has been obtained. It was argued that the above expenditure was incurred to increase the profit earning capacity and not to acquire any capital asset. It was further stated that for the assessment years 2004-2005 to 2006-2007, the assessee had incurred identical expenses to the tune of Rs. 7,11,450/-, Rs. 5,18,091/- & Rs. 11,93,859/- respectively and in scrutiny assessment completed under section 143(3) of the Act, the above said expenses were not disallowed as being capital in nature. It was argued that the facts being similar for the instant case to that of the assessment years 2004-2005 to 2006-2007, the deviation adopted by the Assessing Officer in treating the above said expenses as capital is not warranted and justified.

9. The learned DR on the other hand supported the orders of the Income Tax authorities.

10. We have heard the rival submissions and perused the material on record. The nature of expenditure termed as “infructuous capital expenditure” as detailed in the written submissions of the assessee, which has not been controverted by the learned DR, is as follows:—

“The assessee is engaged in transmission of power to the Electricity Supply Companies. In this process of transmission, the assessee had to take up the construction of transmission lines at the places not catered so far. This is an ongoing process. The process will involve survey, feasibility studies, inviting tenders from the contractors to take up the construction work, engaging consultants to advise on matters relating to setting up of substation, which involves cost to the Karnataka Power Transmission Corporation Limited (KPTCL). During the process of setting up of lines/net work some of the projects will become unsuitable due to faults existing in soil conditions, non-availability of forest clearance etc. The projects in those cases are dropped or abandoned. If the project fructifies, the whole of the expenditure will be identified as capital expenditure and will be capitalized as the cost of the project. As some of the projects have to be given up for various reasons, the expenditure is recognized as business expenditure and termed as infructuous. The term used in accounts “Infructuous capital expenditure written off” is suggested by accounts manual Vol. III issued under Electricity Supply Annual Accounts Rules, 1985. Though it is termed as capital expenditure in a real sense, it is not at all a capital expenditure. The KPTCL has to necessarily incur these types of expenditures before setting up of stations, transmission lines which is the major object of the Company. The expenditure incurred is a normal business expenditure which any business man obliged to incur in pursuing their business objects. Calling it as a capital expenditure is a misnomer. In this case, the KPTCL has not started a new unit or new project. The expenditure is incurred in furtherance of the business and to improve the profit earning capacity”.

10.1 The details of break-up of the infructuous capital expenditure claimed are as follows:—

Major works Divisions Tumkur:—

Sl. No. Nature of expenditure Amount (Rs.) 1. 110 KV D/C Line from 220 KV station at Anthrasanahally to Sira 1,24,482 2. Survey charges proposed 220 KV D/c line from Anchepalya-Mandya to Tubinakere (line) AT from SEE/MW @ Bangalore AT No. 255/12/1/2004 T.O JV No. 29/31.1.2004. 7,34,085 3. Survey charges proposed 66 KV (LL) from 66 KV Huliyurdurga-Dundanahally S/C line to proposed 66 KV SS Nidsale JV No. 29/31.1.2004 BR no. 253/112.9.03 9,843 4. Survey charges for construction of 66/11 KV line from H-Durga to Dundanahally JV No. 43/29.3.04 29,591 5. Amount paid to Geo-Tech investigation charges BR No. 1332/5.1.05 TO JV no. 40/30.7.05 Nidasale S/S 81,380 6. Preparation of agenda note TAC for new sub-station and td line at Honnamachanahally Kunigel Tq. Sri S. Jagadish, BR no. 1153/13.2.06 27,550 7. Preparation of agenda note TAC for new sub-station and Tr. Line at Jiddigere Kunigel Tq. Sri S. Jagadish Br. No. 1155/13.2.06 27,550 8. Preparation of agenda note TAC for new sub-station and Tr. Line at Sajjehosally, M-Giri Tq BR no. 1154/13.2.06 27,550 9. Preparation of agenda note TAC for new station and Tr. Line at Est. 66/11KV S/S at Gungurumale. 579 Total 10,62,610

(ii) Major Works Division, Mysore:

Sl. No. Nature of the work Amount (Rs.) 1. Extension of 19 KMs of DC 66 KV from Kadakola to link M1 M2 lines at Alanhalli, Mysore. 17,02,529 2. 66/11 KV S/s in Shivally 67,960 3. 66 KV D/C line from 220 KV/66 KV S/s at Kadakola to link with 66 KV FTS-SFC M2 line near Alanahally 73,974 TOTAL 18,44,463

(iii) Major works Division, Belgaum:

Sl. No. Nature of expenditure Amount (Rs.) 1. 220 KV Ghataprabha to Kudachi Line 60,361 2. 220 KV Nasrendra to Chikodi line 1,70,630 3. 220 KV Ghataprabhas line 23,065 TOTAL 2,54,056

(iv) Chief Engineer Electricity, Tendering & Procurement

Sl. No. Nature of expenditure Amount (Rs.) 1. Consultation fees 5,51,000 TOTAL 5,51,000

10.2 In the course of running a business, there arise situations where expenditure has to be incurred for the purpose of the business but the objectives are not fulfilled. For example, expenditure may be incurred in preparing a project report for a new industrial undertaking and subsequently it is decided to drop the project. It could also happen that expenditure may be incurred on foreign travel for negotiating the purchase of raw materials or plant and machinery. Subsequently, it may be decided not to import the goods. In all these cases, the expenditure would prove to be infructuous and the question of its deductibility would therefore arise.

10.3 When such expenditure is not deductible at all on the ground that it is of a capital nature, the depreciation and investment allowances are also denied at the same time, since they are available only in respect of a capital asset. Therefore, the expenses are treated as a dead loss and would have to be borne only from the after tax income. There is a fallacy behind the department's denial of the deduction by treating such infructuous expenditure as being on capital account. In fact, the word “capital” is indiscriminately used with the sole object of denying the benefit of deduction to an assessee.

10.4 Capital expenditure is incurred in law and on accountancy principles only in the following circumstances:—

• A new asset is brought into existence;

• An advantage or enduring benefit is obtained by the assessee;

• The expenditure relates to the fixed capital as distinct from the circulating capital;

• The expenditure is of an initial nature to commence a business for the first time;

• The expenditure incurred is to acquire a concern or goodwill.

Thus, if none of the aforesaid circumstances have materialized, an expenditure cannot be treated as being on capital account merely to provide an alibi for its being disallowed. The only circumstances in which it can be disallowed are where the expenditure is of a personal nature or the expenditure is not related to the business of the assessee. In respect of the first circumstance, it is necessary that any expenditure incurred must result in the acquisition of capital assets and would include all expenditure incidentals to the acquisition, installation and erection of the capital asset. Moreover, this general principle that expenditure on the creation of a capital asset is on capital account applies only where the capital asset belongs to the assessee.

10.5 Viewed from the above reasoning, let us examine the judicial precedent, which has been cited by both the sides.

10.5.1 The House of Lords pointed out in I.R v. Carron Co. (45 T.C 18) that the most relevant point is the nature of the advantage in a commercial sense. It is only where the advantage is in the capital field that the expenditure would be disallowed by the application of the test. If the advantage consists merely in facilitating the assessee's trading operations or enabling the management and conduct of the assessee's business to be carried on more efficiently or more profitably, while leaving the fixed capital untouched, the expenditure would be on revenue account even though the advantage may endure for the indefinite future. This is a very important proposition of law because most of the transactions entered into by a trader are meant to facilitate his trading operations and enable the management and conduct of the assessee's business to be carried on more efficiently or profitably. For example, where an assessee enters into a foreign collaboration agreement which is to acquire the latest techniques of manufacturing a product or perhaps a different type of product in the same line of business, judicial decisions have considered the expenditure to be on revenue account even where the period of the agreement is for a fairly long span of 15 years.

10.5.2 In CIT v. Karnataka State Industrial & Investment Development Corporation (163 ITR 657), the assessee, which was engaged in the business of promoting and operating schemes for the industrial development of Karnataka, incurred expenditure in getting project reports and feasibility studies prepared by qualified persons. The Income-tax Department contended that the expenditure incurred was not revenue expenditure but was capital expenditure. The Karnataka High Court disagreed and held it to be revenue expenditure.

10.5.3 In Acc-Vickers Babcock Ltd. v. Commissioner Of Income-Tax, Bombay City Ii. (103 ITR 321), the company was carrying on business as manufacturers and dealers in cement-making machinery and equipments of a similar nature. Within 2 years of its incorporation it entered into an agreement with an American company with a view to secure a lincece and all the necessary know-how, designs, drawings, etc. to manufacture different types of machines in which the foreign collaborator specialized. The equipment covered by the agreement was to bear the nature of the foreign collaborator. The agreement was for a period of 10 years during which the assessee was required to keep confidential all information, designs and engineering data supplied by the manufacturer. The Bombay High Court held that the fees paid to the foreign collaborator were so related to the carrying on of the business that they would have to be regarded as an integral part of the profit making process and there was no indication that the payments to be made were for the purpose of acquisition of an asset or a right of a permanent character.

10.5.4 Now taking the illustration of acquisition of machinery, there can be no doubt that if as a result of incurring the expenditure, the machinery had actually been acquired, all expenditure would be included in the actual cost of the asset. Hence, not only the price of the machinery but all incidental expenses incurred to acquire it like travelling expenses, freight, insurance and handling charges for bringing it to the location, expenses on installation, erection and commissioning etc. would all be included in the actual cost of the asset. However, where the business man decides not to acquire the asset, though some expenditure was incurred initially, we are of the view that it cannot be said that such initial expenditure which has now proved to be infructuous, has resulted in the creation of an asset or brought an enduring benefit to the tax payer. Thus in the absence of such acquisition of asset or enduring advantage, it is difficult to understand the rationale for treating the infructuous expenditure as being on capital account. Hence, unless a tangible asset has been created or acquired the expenditure cannot be said to be on capital account. To put it differently, the acquisition of the asset is the crucial factor for converting an expenditure into one on capital account. On the other hand, if the expenditure is not represented by a capital asset, it cannot be said that such expenditure is of a capital nature unless other circumstances like the acquisition of an enduring benefit have been fulfilled.

11. The Assessing Officer has relied on certain case laws. The case laws cited at para no. 4.1 of the assessment order are not similar to the case on hand and is distinguishable. We herein below discuss those issues:

11.1 Assam Bengal Cement Co. Ltd. v. CIT, 27 ITR 34 (SC)

Manufacture of cement-Lease of limestone quarries for 20 yrs-half year rent and royalties payable-in addition agreed to pay Rs. 5,000/- and Rs. 35,000/- annually towards protection fees. The court held the advantage obtained was of enduring nature though the recurring payment was immaterial. The asset acquired was right to carry on business unfettered by competition. This has no bearing with the present case on hand. The KPTCL has not acquired any asset of enduring nature or permanent nature.

11.2 CIT v. Bazpur Co-operative Sugar Factory Ltd., 142 ITR 1 - incurred expenditure for boring new tubewell.

11.3 Fancy Corporation Ltd. v. CIT, 162 ITR 827 - Install a bore well at its new factory site.

11.4 East India Commercial Co. P. Ltd. v. CIT, 54 ITR 81 - The company has spent Rs. 4680 towards stamp duty in respect of lease deed for the purpose of renewing the lease which has become invalid and in-effective.

11.5 In all the above cases, the courts have held that the expenditure is incurred with a view to obtain capital asset; hence, it is a capital expenditure. This is not comparable to our case on hand. The KPTCL has, in essence, incurred expenditure to increase the profit earning capacity and not to acquire any capital asset.

11.6 CIT v. Digvijay Cement Co. Ltd., 159 ITR 253

Expenditure in obtaining a feasibility report for setting up a shipyard. The report was not favourable and no shipyard was established. The Tribunal held it as a capital expenditure. On a reference, the Gujarat High Court has opined the assessee could not successfully contend that the ship building yard was to facilitate its trading operation or was to enable it to manage its business more efficiently. The court held that obtaining feasibility report for setting up a shipyard having been incurred with a view to bringing into existence an advantage or asset of an almost permanent nature or of an enduring benefit is capital expenditure even though no shipyard was actually constructed.

The above case has no relevance in the context of this case, since expenditure has been incurred during the course of the business.

11.7 Triveni Engineers Works Ltd. v. CIT, 232 ITR 639

Amount spent for preparing project report and survey report in connection with manufacture of new product-The court has held that expenditure is incurred with a view to bringing up an asset or advantage into existence and for enduring benefits is capital expenditure. Its nature did not change to revenue merely because the project did not materialize.

Here in this case the company intended to manufacture a new product all together by setting up a new establishment. Hence, this case is also not comparable with the case on hand.

11.8 At para 4.3, the Assessing Officer has cited that in CIT v. British India Corpn. Ltd., (165 ITR 51) (SC) and Commissioner Of Income-Tax v. Karuna Mica Co. (167 ITR 292) that it was held that the aim and object of the expenditure would determine the character of the expenditure. In British India, it has been held that Rs. 50,000/- fixed amount paid to distributor for establishing distributorship is revenue in nature. In Karuna Mica, it has been held that there was a new construction and the ultimate object was the protection of mines as also the safety of the labourers was capital expenditure.

Hence this case is also not comparable with the case on hand.

12. To sum up, the above mentioned expenditure has to be allowed on the facts of this case, since no new asset has been brought into existence and no enduring benefit has been obtained to the assessee. Moreover, the expenditure incurred was not on account of commencement or construction of new project. Before we part, it is to be mentioned that for the assessment years 2004-2005 to 2006-2007, similar expenditure has been claimed by the assessee and allowed in a scrutiny assessment completed under section 143(3) of the Act. When facts are similar, a deviation taken for this assessment year by treating the above said expenditure as capital in nature is not warranted. Hence, ground nos. 2 and 3 are allowed.

13. In the result, the appeal filed by the assessee is partly allowed as indicated above.