Whether when assessee engaged in real estate business lets out part of property to beat slowdown in business and to reduce interest on borrowed funds, such rental income takes colour of business receipt - YES: HC

THE issue before the Bench is - Whether when the assessee engaged in the real estate business lets out part of property to beat the lull in business and to reduce interest on borrowed funds, such rental income takes the colour of business receipt. And the verdict favours the assessee.

Facts of the case

The assessee is an Individual. During AY 1983-84, it had constructed a Commercial Complex known as "Nirman Sahu Business Complex" Sitapur Road, Lucknow where the shops on the ground floor and a few residential flats were constructed at the first floor. All the units including

the shop and flats were put on sale as and when there was a demand for the same. A few units were not sold out due to steep decline in market demand. However, some units were kept as Stock-in-Trade being business assets. As a prudent businessmen, a few units were let out for short period. The assessee had received the rent and the rental income was shown by the assessee under the head "Income from House Property". However, during the AY under consideration, assessee had claimed the rental income under the head of the "Income from the business". The claim was disallowed by the lower authorities including the Tribunal.

Before HC, the assessee's counsel had submitted that the building was exclusively meant for the purpose of business i.e. sale, as appears from the nomenclature "Business Complex". It was submitted that due to ignorance in the earlier years, the income had shown the rental income under the Head "Income from the House Property". Before CIT (A), a plea was raised for the first time that the rental income was to be assessed as "income from the Business". This plea was advanced on the basis that the assessee systematically carried out the business activities, which involved acquisition of land and construction of complex. Unsold units were duly shown as "stock-in-trade" being business asset. Maximum units in the building had already been sold out. For the remaining units, the rent received by the assessee was meager one. It was further submitted that unsold stock- in- trade forms the part of the business activities of the assessee. The assessee had borrowed the funds, which were utilized in the construction of the complex in question, hence, the interest thereupon was liable to be deducted u/s 36 (1) (iii). The borrowed funds were reflected in the books of account as business liability. So, the interest was allowable. The authorities below were not justified either on the facts or in law to restrict the assessee's claim for deduction of interest to Rs.1,49,120/- on the assumption that part of the initiate borrowings "must have been repaid" and interest on arrears was not allowable as deduction. The arrears of interest formed the part of the borrowings, which were utilized for the construction of the Complex and whole of the claim was allowable as deduction. Regarding the earlier AYs, it was submitted that the assessee was ignorant about the correct legal position. So, first time, the issue was raised before the CIT (A) and the same was admissible as per the ratio laid down in the case of Smt. Raj Rani Gulati vs. CIT (2010-TIOL-337-HC-ALL-IT), where the ratio laid down in the case of Jute Corporation of India Ltd. vs. CIT; (1991) 187 ITR 788 SC was followed. It was also submitted that now the assessee had raised the plea to the effect that income from the let out of the Flat and Shops, was due to trade /business asset acquired by the assessee during the course of carrying on of her integrated and systematic business activities. Hence, the rental income was an income from business activities. It was submitted that earlier omission had been caused solely because of the lack of knowledge about the provision of law.

On the other hand, Revenue's counsel at the strength of the written statement, justified the impugned order and submitted that in the earlier assessment years, assessee herself had shown the income from the House Property. The ownership remains with the assessee. If the income was earned on account of the ownership of house property, then it was to be taxed under the head "income from house property". Only those portions which were kept for the purpose of any business or profession carried on by assessee were to be taken out of the ambit of Section 24. It was further submitted that the income derived from the shops and the flats was the income received from the property and fell under the specific head described in Section 9. For the purpose, he also relied on the ratio laid down in the cases of CIT vs. Patteshwari Electrical and Associated Industries Pvt. Ltd (2005-TIOL-213-HC-ALL-IT); Excess Profit Tax vs. Sri Lakshmi Silk Mills Limited; 20 ITR 451; and Indian Overseas Bank Limited vs. CIT; 246 ITR 206 SC. Lastly, he made a request to dismiss the appeal.

Held that,

++ it is an undisputed fact that the assessee has constructed the Business Complex with the help of borrowed funds. Letting out the premises or receiving the rent is not a business of the assessee. The business of the assessee's is to construct and sale the properties. In other words, the assessee is a developer in real estate. Due to lull in the market, a few units were lying vacant and as a prudent businessmen, the same were letting out for a short term. The assessee has shown this income in its return and brought the same to the clutches of the taxation. The building in question was constructed with the help of borrowed funds and the same will have to be returned. To return the interest and principle amount, the rental income was utilized to reduce the burden. The asset was constructed and used for the purpose of the business remained a commercial asset and the same is properly shown in the books of accounts as stock-in-trade as per the ratio laid down in the case of Lakshmi Silk Mills. If the asset is temporarily put out to use or let out to another person for use, the same remains the commercial asset. It is only due to decline in demand, and in order to put the unsold stock to a gainful utilization i.e. letting out and earned income to reduce the burden of borrowed funds;

++ needless to mention that the definition of term 'business' in the act is helpful where it applies but not being an exhaustive one, it cannot shut out something which can be appropriately described as a business. The definition shows that it is meant to cover most of the activities designed to produce income or profits or gain as per the ratio laid down in the case of CIT vs. Calcutta National Bank Limited; (1959) 37 ITR 171, where it was held that "definition mentions the holding of investments or other property, and the words 'other property' must necessarily take their colour from what precedes, that is to say, "investment". The holding of other property must itself be investment for earning profits; otherwise the definition does not apply. The word 'investment' is a word of large import. In one sense, every mode of application of one's money intended to yield a return by way of interest, income or profit is investment;

++ regarding the rental income shown by the assessee in the earlier assessment years, as income from the House Property, it may be mentioned that for the ignorance of the assessee, the department should not take advantage as per the Circular No.14 (XL-35)/1995 dated 11.04.1955 quoted in 150 ITR 105 Kerla. Ignorance of law can be an excuse as per the ratio laid down in the case of P.V. Devassy vs. CIT; 84 ITR 502 Kerla. The assessee raised the legal ground first time before the CIT, which was adjudicated by the authorities as per the ratio laid down in the case of Jute Corporation. In view of above discussion, it is crystal clear that the assessee is entitled to raise the legal ground at any stage. Rental income was obtained due to lull in the market. Business may the temporarily closed / stopped or discontinued, even then the assessee is entitled for carry forward or set off the legal claims as per the ratio laid down in the cases of CIT vs. John V. P.; 229 ITR 475 Kerala; and L.Vc. Vairan Van vs. CIT; 1969 (72) ITR 115 Madras;

++ in the case of Goel Builders, before reaching the above findings, the Bench has discussed a number of case laws and the same need not to be repeated here. Hence, for the reasons mentioned above and by considering the totality of the facts and circumstances of the case, we are of the view that the assessee has rightly claimed rental income under the head "income from business" specially when the assessee was not engaged in the business of letting out for the construction of the business complex, the assessee has borrowed the funds and the same will have to be paid along with interest. Being a prudent businessmen, to reduce the liability, the rental income was earned for a short period. Thus, the same was shown in the books of account. The unsold units in the stock-in-Trade were already treated as business assets. When it is so, then we set aside all the impugned orders including the impugned order and direct the AO to treat the rental income from unsold unit in complex under the head "income from business". The answer to the substantial questions of law is in favour of the assessee and against the Department. In the result, all the appeals filed by the assessee are allowed.