Lord Sands observed in IR vs Granite City Steamship Co Ltd (13 TC 1,14): ``Broadly speaking outlay is deemed to be capital when it is made for the initiation of a business, for extension of a business, or for a substantial replacement of equipment''.

This test should be applied with great circumspection, because expenditure for the initiation or extension of a business can easily be on revenue account. The question should bedecided from the practical and business viewpoint and in accordance with sound accountancy principles.

The Supreme Court recently had occasion to consider this point in the case of Hasimara Industries Ltd vs CIT (231 ITR 842). In this case, the question related to an advance given which had become irrecoverable.

The facts in this case were that S, a cotton mill company, was in the process of liquidation. The assessee-company which owned tea estates filed a scheme in those proceedings and entered into a leave and licence agreement with S, for a period of about three years. The assessee-company advanced a sum of Rs 20 lakh to S for the specific purpose of modernisation of its plant. The assessee claimed before the Assessing Officer that the advance of Rs 20 lakh was deductible as a business loss on the ground that it became irrecoverable on account of the incapacity of S to repay the amount to the assessee.

The Assesssing Officer disallowed the claim on the ground that the amount represented advance to Sfor modernisation of its factory and the said amount was not taken into consideration in computing the income of the assessee in any assessment year, that the said sum did not represent money lent in the ordinary course of business and that even otherwise the said sum was not entitled to deduction because it had not become a bad debt in the relevant year of account and the assessee made no effort to recover the same.

On appeal, the appellate assistant commissioner held that the advance given by the assessee to S became irrecoverable and, hence, it had to be allowed as a deduction as revenue expenditure. On further appeal, the Tribunal found that the sum of Rs 20 lakh advanced to S was to be treated as capital investment as per the resolution of the board of directors of the assessee-company, that the assessee had acquired an advantage of enduring nature and the claim of the assessee was not allowable as business loss.

On a reference, the high court held that it was a well-settled principle that loss ofmoney lent or advanced would be a capital loss unless the loan was made by a money-lender for whom money was his stock-in-trade. The High Court also held that although the assessee had some money-lending business, the amount of Rs 20 lakh was not lent to S as a loan transaction but pursuant to one of the clauses of the agreement.

The High Court further, held that it was not a trade debt and the assessee had advanced the sum of Rs 20 lakh so that new plant and machinery could be bought by S for the benefit of the assessee during the period of the agreement.

The assessee itself had treated the advance of Rs 20 lakh to S as a capital advance as evidenced by the resolutions passed by the board of directors at the time of granting the loan, and hence the amount was not allowable as a business loss.

Before the Supreme Court, counsel for the appellant submitted that though the assessee had made a lump sum payment, it was not in order to gain an enduring benefit, but only to augment income in the course of itsordinary business. Thus, the expenditure was not capital in nature but allowable as revenue expenditure in terms of section 37 of the Income-tax Act.

Counsel for the department contended that in view of the decision of the Supreme Court in Hasimara Industries Ltd vs C I T (230 I.T.R. 927), there was hardly anything left for decision in this case. He submitted that the agreement which was the subject-matter of consideration in these proceedings was also considered in that decision and had been interpreted in the context of another transaction.

Counsel for the assessee also relied upon the decision in CIT v Malayalam Plantations Ltd. (53 ITR 140 (SC)), wherein estate duty was paid on the death of non-domiciled shareholders and it was ``for the purpose of the business'' and ``for the purpose of earning profits'' and, therefore, allowable as business expenditure. However, that was not the position in the present case wherein the assessee had given an advance of Rs 20 lakh for a purpose not in the line of itsbusiness as found by the tribunal which is the last fact-finding authority.

In Empire Jute Co. Ltd v C.I.T. (124 I.T.R. 1 (SC)), certain loom hours were purchased by one member of an association from another member and the members in the association had bound themselves to work their mills for limited hours per week and, in those circumstances, the price paid was held to be in the nature of revenue expenditure in terms of section 10(2) (xv) of the Indian Income-tax Act, 1922, and deductible.

The test adopted in that case is the nature of the advantage in a commercial sense and where it is only an advantage in the capital field, the expenditure cannot be allowed, but 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 an indefinitefuture.

In C.I.T. v. Hashimara Industries Ltd. (175 I.T.R. 477), the very agreement with which the Court was concerned in the present case, was itself the subject-matter of consideration by the Calcutta High Court. Pursuant to the agreement, an amount was deposited with the cotton mills for acquiring profit-making apparatus. Later, there was closing down of the cotton mills and loss of deposit constituted capital loss.

It was held in that case that the assessee's ordinary business was manufacture and sale of tea and it started cotton manufacturing business acquiring the right to operate the mill belonging to another company for a specified period under a leave and licence agreement after depositing a certain sum in terms of the agreement. After the expiry of the agreement, Saksaria Cotton Mills Limited itself managed the cotton mills but suffered loss and went into liquidation.

Consequently, the sum deposited by the assessee remained unpaid. In those circumstances, it was held that the loss of thedeposit was on capital account and not business expenditure of the assessee. That matter was carried in appeal to the Supreme Court in Hasimara Industries Ltd. v. C.I.T. (230 I.T.R. 927), and the Court upheld the view taken by the high court.

It is clear from the findings recorded by the tribunal and the high court that the assessee's business was manufacture and sale of tea and it was not engaged in cotton manufacturing business at all; that while it intended to enter into cotton manufacturing business, it did not set up a cotton mill, but obtained operating rights from another company under a leave and licence agreement for the purpose of acquiring the profit-making apparatus for a duration of three years or a little more; that the business of running a cotton mill was not its own, but it was only operating the said mill under the leave and licence agreement; that the amount of advance of rupees twenty lakh was given not for its own purpose by way of business expenditure for modernising the mill, but ascapital to the lessor who in turn had to modernise the mill.

In the resolutions passed by the board of directors, it was clear that the transaction entered into was not in the nature of a loan transaction or a money-lending transaction and thus the court concluded that the loss suffered by the assessee was a capital loss. Hence, the amount could not be deducted from the assessee's income as a business loss.