By TIOL News Service

AHEMDABAD, NOV 29, 2016: THE ISSUE IS - Whether interest earned out of fixed deposit in foreign currency, which was required for obtaining LoC for purchase of plant & machinery, can be taxed as 'income from other sources'. NO IS THE VERDICT.

Facts of the case:

The assessee during the subject year, had opened foreign currency account with State Bank of India, Tokyo with the approval of Reserve Bank, in which, the contribution from NRI promoters were credited. The said payments were made for import of major plant and machinery purchased from Japan. The company opened LC for import of plant and machinery from time to time. The lien was created for the equivalent amount of LC deposited in this account. The assessee company earned interest on the said deposit in foreign currency which was converted into rupees, either at the time of settlement of import transactions or on the date of balance sheet, whichever is earlier. The assessee earned interest of Rs. 25,17,666/on the aforesaid fixed deposited which was placed for opening of LC for import of plant and machinery. The assessee claimed that such interest earned was not at all taxable. The AO did not accept the contention of the assessee and made addition of Rs. 25,17,666/- being interest on the bank deposit which was required to purchase of LC.

Having heard the parties, the High Court held:

++ It is required to be noted and even as observed by the AO while passing the assessment order, the assessee earned the interest on the deposit which was required to be placed for opening of LC for import of plant and machinery. The AO has also observed that without depositing the money with FDR, the LC cannot be opened. However AO did not accept the contention made on behalf of the Assessee that addition of aforesaid investment treating as income from other source, solely on the ground that the assessee cannot pray for set off of the interest and other income of the preoperative project expenses.

++ In light of the aforesaid facts, more particularly, when the interest earned by the assessee was on the fixed deposit which was required for obtaining LC for purchase of plant and machinery, we are of the opinion that the decision of the Supreme Court in the case of Karnal Cooperative Sugar Mills Ltd shall be directly applicable to the facts of the case on hand, wherein it was held that such interest was a capital receipt which would go capital shifted, which would go to reduce cost of asset and that deposit of money was directly linked with purchase of plant and machinery and therefore, any income earned on such deposit is incidental to the acquisition of the assets for setting up of plant and machinery. In view of the above, the Tribunal has committed error in holding that the interest income earned on the amount of deposit kept with the bank for the purpose of opening letter of credit used for the purpose of plant and machinery would be taxable as "income from other source".

(See 2016-TIOL-2879-HC-AHM-IT )