Commissioner of Income Tax vs Banswara Syntex Ltd.

Dinesh Maheshwari, J.—This appeal u/s 260A of the income tax Act, 1961 ("the Act"), is directed against the order dated September 22, 2006, as passed in I. T. A. No. 806/JDPR/2005 whereby the income tax Appellate Tribunal, Jodhpur Bench, Jodhpur ("the Tribunal"), dismissed the appeal filed by the Revenue and affirmed the order dated October 18, 2005, as passed by the Commissioner of income tax (Appeals), Udaipur ("the CIT(A)"), who had deleted the addition made by the Assessing Officer ("the AO") of the lease rent of the machinery, said to have been taken on hire. The Assessing Officer was of the view that the lease agreement was that of financing and not of operational work and, hence, the lease rent was not that of business expenditure. The appellate authority, however, disagreed and held that the lease rentals were allowable as business expenditure in the case of the assessee. The Tribunal endorsed the views of the appellate authority. This appeal, preferred in challenge to the orders so passed by the appellate authority and the Tribunal, has been admitted on the following substantial question of law:

Whether, in the facts and in the circumstances of the case, the learned Tribunal was justified in dismissing the appeal of the Revenue and confirming the order of the Commissioner of income tax (Appeals) regarding the deletion of the addition of Rs. 50,76,176 made by the Assessing Officer on account of disallowance on lease rent ignoring the finding of the Assessing Officer that the lease agreement is that of a financing and not of the operational work ?

The facts and background aspects for the'' purpose of the present appeal could be noticed in the following: The assessee-company derives the income from manufacture of yarn and fabric. In its return for the assessment year 2000-01, the assessee-company, inter alia, claimed In the profit and loss account an amount of Rs. 58,18,153 towards the lease rental and interest in regard to the machinery, said to have been taken on hire. The Assessing Officer, upon examination of the lease agreements, formed the opinion that they were only of finance lease and not of operational lease. The Assessing Officer observed that the risks incident to the ownership of the assets stood "substantially" transferred to the lessee although "apparently" the title to the assets had not been transferred. However, according to the Assessing Officer, the agreement had only been drawn up to ensure that the lessor recovers the finance involved in acquiring the machines and the lease rentals were merely in the nature of repayment of capital loan and interest thereupon. The learned Assessing Officer/inter alia, observed as under:

In view of the above, it is clearly established that the alleged lease agreement is only a finance lease and not an operating lease. The risks incident to the ownership of the assets stand substantially transferred to the lessee although apparently the title to the assets has not been transferred. Therefore, the said lease agreement being in the nature of finance lease cannot be treated as normal operating lease as understood from the discussion of the above clauses. The agreement has been drawn up only to ensure that the lessor recovers the finance involved in acquiring the machines, The lease rentals are merely in the nature of repayment of the capital loan and interest thereon.

Upon the considerations aforesaid, the Assessing Officer held that the amount of the alleged rental, i.e., a sum of Rs. 50,76,176 had been paid towards repayment of the principal; and this amount was disallowed and added to the total income of the assessee. However, the other component of the payment, to the extent of Rs. 5,41,977 was allowed, as being the payment of interest on the borrowed funds for acquisition of assets.

In appeal, the learned Commissioner of income tax (Appeals) re-examined the entire matter with reference to the lease agreements and observed as under:

I have considered the facts of the case and the contentions of the learned authorised representative of the appellant and found that the Assessing Officer has disallowed the lease rent claimed by the appellant on the ground that the lease agreement is financing one and not the operational treating the cost of the leased assets as loan amount and the lease rentals as interest. The Assessing officer has allowed interest part only and disallowed the loan amount. It is seen from the submission of the appellant that the appellant has taken leased assets from M/s. Gujarat Lease and Finance Ltd. and M/s. ITC Classic Finance Ltd. which are reputed lease and finance companies. The fact of ownership of the lessor, namely, GLFL and ITCCFL is supported by the following clauses of the agreement:

(i) Re-delivery of the equipment by the lessee, on termination.

(ii) Lessor''s right to assign the receivables, etc.

(iii) Lessee to affix the name plate.

(iv) Lessee not to part with the possession.

(v) Lessee not to have any right in equipment except bailee.

(vi) Lessee to ensure the equipment.

(vii) Lessee not to transfer or dispose of equipment for interest in the lease.

(viii) Lessee not to make alterations in the equipment, additions belong to the lessors.

(ix) Seizure confiscate of the equipment not to claim and relief, allowance, etc.

(x) Sale of the equipment by the lessor, sale through the agency of the lessee and the lessees reward.

The learned Commissioner of income tax (Appeals) further referred to the submissions that the relevant considerations were to examine whether the lease transactions were unreal or sham or made only to evade the tax; and whether the lessor was legally the owner of assets. The Commissioner of income tax (Appeals) observed that if the agreements were real and genuine, they had to be accepted as they stood. The Commissioner of income tax (Appeals) further noticed the fact that the lease rentals had been allowed as business expenditure in the case of the appellant for the assessment years 1996-97 to 1999-2000 but the Assessing Officer deviated from the stand taken by his predecessor without any change of facts. The Commissioner of income tax (Appeals) referred to the decision of this court in Rajshree Roadways Vs. Union of India (UOI) and Others, and of the Tribunal in Shree Rajasthan Syntex Ltd. v. Asst. CIT and ultimately held as under:

Thus, it is crystal clear 6n the facts of the case that the appellant is a lessee in the real sense and has taken assets on lease and paid lease rentals. Accordingly, the appellant claimed the same as business expenditure. The lessor has been the actual owner during the lease period and after that also when the lease period has expired and the leased assets have gone back to the lessor. The lessor has claimed depreciation on these leased assets in its books of account and has been allowed also.

Further, the decision in the case of Shree Rajasthan Syntex Ltd. quoted above also applies fully in the case of the appellant. Respectfully following the order in the above case by the Hon''ble income tax Appellate Tribunal, Jopdhpur Bench, the claim of the appellant for the lease rent is allowed. The disallowance is deleted and the appeal is allowed on this point.

The Tribunal endorsed the reasons and findings of the Commissioner of income tax (Appeals) and dismissed the Revenue''s appeal while observing as under:

Ground No. 1 of the appeal relates to the deletion of Rs. 50,66,176 added on account of disallowance of the lease rent. The Assessing Officer has disallowed the lease rent claimed by the assessee on the ground that the lease agreement is that of a financing one and not the operational, treating the cost of the leased assets as loan amount and the lease rentals as interest. The Assessing Officer has allowed the interest part only and disallowed the loan amount. The assessee took the leased assets from M/s. Gujarat Lease and Finance Ltd. and M/s. ITC Classic Finance Ltd., which are reputed lease and finance companies. It is not the case of the Revenue that the lease transactions or not real or are sham transactions. The lessor is legally owner of the assets, and the lessee is the actual owner for business purposes. Therefore, the learned Commissioner of income tax (Appeals), allowed the lease rent on the force of the reasoning that the lease rentals have been allowed as business expenditure in the case of this assessee in the assessment years 1996-97 and 1999-2000. This issue stands covered by the decision of the Hon''ble Rajasthan High Court in the case of Rajshree Roadways Vs. Union of India (UOI) and Others, and also in the case of Shri Rajasthan Syntex v. Asst. CIT (ITAT Jodhpur Bench). Thus, this ground also stands covered in favour of the assessee, therefore, we confirm the findings of the learned Commissioner of income tax (Appeals) and dismiss ground No. 1 of the appeal either.

Questioning the orders aforesaid, it is submitted that whether a lease is a finance lease or an operational lease depends on the substance of the agreement rather than its form. According to, the appellants, as per the lease agreements, the obligation to pay rental is absolute and not conditional whereas in the operational lease, the rental should be related to actual use of machinery. Then, the lessee was responsible for quality, cost, delivery, condition, durability and insurance of machinery; the fact of damage or loss to the machinery would not be affecting the payment of lease rent; and the lessee was also required to pay all rates, tax, licence, fee, registration charges and other outgoing payable in respect of equipment. It is contended that all such features establish beyond doubt that the risks incident to the ownership of the assets stood substantially transferred to the lessee even if ownership as such had not been transferred. It is submitted that the Assessing Officer, after examining the lease agreements, rightly held it to be a matter of finance lease not an operational lease as claimed by the assessee and thus, rightly disallowed the alleged lease rentals. It is further submitted that as per the ratio of the decision in Rajshree Roadways Vs. Union of India (UOI) and Others, the question as to whether a lease is a financial one or an operational one is to be decided on the facts of the lease agreement and its contents and thus, the said case could not have been directly applied.

On the other hand, the learned counsel for the respondent-assessee has duly supported the order impugned and, inter alia, pointed out that the present one and the other connected appeals were admitted with reference to admission of D.B. Income Tax Appeal No. 23 of 2005 that has already been decided against the Revenue by this court in the decision reported as Commissioner of Income Tax Vs. Shree Rajasthan Syntex Limited,

After having given thoughtful consideration to the rival submissions and having examined the record, we are clearly of the view that this appeal remains bereft of merit and deserves to be dismissed.

The facts of the case make it clear that the respondent-assessee had taken the machinery on lease from Gujarat Lease and Finance Ltd. and ITC Classic Finance Ltd. It has not been the case of the Revenue that the lease transactions were not genuine or were sham. The Commissioner of income tax (Appeals) in his appellate order has clearly noticed the salient features of the lease agreements whereby it was established beyond doubt that the ownership of the machinery concerned remained only with the lessor company and not with the assessee, who was the lessee for the purpose. The observations as made by the Assessing Officer that the risks incident to the ownership of the assets stood "substantially" transferred to the lessee though "apparently" the title to the assets had not been transferred, in our view, had been of not viewing the case in its correct perspective. The Commissioner of income tax (Appeals) has rightly observed that once the agreements were accepted as real and genuine, they were required to be accepted and there was no reason to treat the assessee as the owner of the machinery.

For such nature agreements and their legal implication, the principles of law expounded and explained by the Hon''ble Supreme Court in Commissioner of Income Tax, Karnataka, Bangalore Vs. M/s. Shaan Finance (P) Ltd., Bangalore, could be noticed, for being of direct application to the present case, as under (page 316 of 231 ITR):

Neither of these cases deals with an agreement of hire of machinery in contradistinction to an agreement of hire purchase. When the machinery is given on hire by the owner to the hirer on payment of hire charges, the income derived by the owner is business income. The owner is also entitled to depreciation on the machinery so hired out. The hirer, on the other hand, who pays hire charges, is entitled to claim these as revenue expenditure. The hirer has not acquired any new asset. A transaction of hire is, therefore, of bailment of the machinery. There is no extinguishment of any right of the owner in the machinery. There is merely a licence given to the hirer to use, for a temporary period, the machinery so hired....

(emphasis supplied)

In the case of Rajshree Roadways Vs. Union of India (UOI) and Others, , this court considered the matter where the lessee had the option of purchasing the trucks on payment of 1 per cent. of lease money at the end of the lease period but as regards the lease period, this court found the lessor to be the owner of the trucks and the lessee having no right to transfer or alienate. Further, it had been agreed that the lessor would be entitled to claim depreciation as would be permissible under the Act, being the owner of the trucks. It was noticed that the depreciation had indeed been allowed to the lessor. In the given fact situation of the case of Rajshree Roadways Vs. Union of India (UOI) and Others, , this court observed and held as under (page 210):

It is true that there was a clause that the assessee had an option to purchase the trucks on payment of one per cent. of the lease money on termination of the lease period and the lessee can become the owner of the truck but we are concerned with the lease period and terms of the lease. As we have referred above, in the terms and conditions of the agreement, when Key Leasing and Finance Ltd., both the parties agreed that during the lease period, the lessor, Key Leasing and Finance Ltd., shall be the owner of the trucks and the lessee, i.e., the assessee, will have no right to transfer or alienate to other party in any form. Not only that the lessee as well as the lessor both have agreed that the depreciation which is permissible under the income tax Act, being the owner of the trucks, the lessor will have that right and benefit and it will, get the benefit of depreciation on these trucks during this lease period, i.e., during the assessment years 1991-92, 1992-93 and 1993-94.

It is also pertinent to note that the lessor has claimed this benefit and that has been allowed by the Department to the lessor, i.e., to the Key Leasing and Finance Ltd. Once under the same agreement when the lessor, Key Leasing and Finance Ltd., has been treated as the owner of these trucks and has been allowed the depreciation permissible under the provisions of the income tax Act, there is no justification to treat the assessee also as the owner of these trucks during this period. There cannot be two owners indisputedly of the same property. In our view, the Tribunal has committed an error in restoring the view of the Assessing Officer. Therefore, considering the terms and conditions of the lease agreement and the fact that depreciation on these trucks has been allowed to the lessor, Key Leasing and Finance Ltd., now there is no justification to deny the claim of the assessee that his lease rent should be allowed as revenue expenditure. In our view, the Commissioner of income tax (Appeals) has rightly allowed the claim of the assessee.

In the present case too, the assessee had no right to transfer or alienate the machinery in any form, was obliged to re-deliver the equipment upon termination of the lease agreement, was not to part with possession and not to make alteration in the equipment with the stipulation that additions would belong to the lessor; and the lessor was entitled to claim depreciation during the lease period. Looking to the explicit terms and stipulations, the findings of the Assessing Officer about so-called "substantial" transfer of ownership though "apparent" non-transfer of title, in our view, could not have been countenanced and have rightly been reversed by the appellate authority.

It may also be observed that the present appeal and the other connected appeals were admitted with reference to the fact of admission of D.B. Income Tax Appeal No. 23 of 2005. The said appeal has been decided by this court along with cognate cases on May 6, 2008, in the decision referred to by the learned counsel for the respondent, reported as Commissioner of Income Tax Vs. Shree Rajasthan Syntex Limited, . Therein, this court considered the case of the assessee who had given the machinery on hire to another concern by way of different agreements; and the assessee claimed depreciation as being the owner of the machinery. This court upheld the claim of depreciation as made by the lessor, particularly with reference to the decision in Commissioner of Income Tax, Karnataka, Bangalore Vs. M/s. Shaan Finance (P) Ltd., Bangalore, As a necessary corollary it follows, and has been laid down by the Hon''ble Supreme Court in no uncertain terms, that the hirer, who pays hire charges, is entitled to claim those charges as revenue expenditure.

In the ultimate analysis, in the present case, where the respondent-assessee has been found to be essentially a hirer after appreciation of evidence on record, in our view, no interference in the findings on the mixed question of law and facts as rendered by the appellate authority and the Tribunal is called for. The features as noticed by the Commissioner of income tax (Appeals) in his order make it clear that the lease rentals paid on the hired machinery were allowable as business expenditure for the year in question.

Accordingly and in view of the above, the answer to the formulated question of law is in the affirmative, i.e., against the Revenue and in favour of the assessee. Consequently, the appeal fails and is, therefore, dismissed. No costs.