ITAT: Depreciation Allowed on Leasehold Property Upgrades

In a significant ruling, the Delhi Bench of the Income Tax Appellate Tribunal (ITAT) reaffirmed that capital expenditure incurred on leasehold premises qualifies for depreciation under Section 32 of the Income Tax Act, 1961. This judgment came after the tribunal dismissed the revenue’s appeal against the deletion of an addition of ₹53,42,103 for the Assessment Year 2012–13.

The case involved Add Lounge Service Pvt. Ltd. (formerly known as Skylark Hospitality India Pvt. Ltd.), which had claimed depreciation on the cost of improvements made to a leased property used for its business operations.

Background of the Case

• Assessing Officer's Disallowance:
  The Assessing Officer (AO) disallowed the depreciation claim, arguing that the expenses incurred on leasehold premises did not qualify for depreciation under Section 32 of the Income Tax Act. The AO treated the expenditure as non-depreciable and added ₹53,42,103 to the taxable income.

• Appeal Before CIT(A):
  Aggrieved by the AO’s order, the assessee approached the Commissioner of Income Tax (Appeals) [CIT(A)]. The CIT(A) ruled in favor of the assessee, relying on a prior ITAT decision involving the same company. It held that the expenses on leasehold improvements, such as flooring, partitions, plumbing, and electrical fittings, were in the nature of capital expenditure and qualified for depreciation.

• Revenue’s Appeal to ITAT:
  The Revenue contested the CIT(A)’s ruling, arguing that the depreciation claim was not valid. However, the Counsel for the assessee maintained that the CIT(A) was correct, as the matter was consistent with ITAT’s earlier ruling.

ITAT’s Observations

A two-member bench, comprising Mahavir Singh (Vice President) and Amitabh Shukla (Accountant Member), examined the facts and arguments presented by both parties. The Tribunal highlighted that:

• The case facts were identical to those of the assessee’s previous assessment year, where depreciation on similar leasehold improvements had been allowed.

• Capital expenditure on leasehold premises is eligible for depreciation as per Explanation 1 to Section 32, which allows the "ownership test" to be satisfied even if the taxpayer does not own the building but has made substantial improvements for business use.

Accordingly, the ITAT dismissed the revenue’s appeal and upheld the CIT(A)’s decision in favor of the assessee.

Key Takeaways from the Ruling

1. Capital Expenditure on Leasehold Property: Improvements such as flooring, partitions, electrical fittings, and plumbing made on leased property qualify as capital expenditure for depreciation purposes.

2. Ownership Test under Section 32: Explanation 1 to Section 32 allows depreciation even when the taxpayer is not the owner of the building but has incurred capital expenditure for business operations.

3. Precedents Matter: The ITAT ruling highlights the importance of consistent decisions across assessment years when the facts remain unchanged.

FAQs

1. Can a company claim depreciation on a leased property?

Yes, a company can claim depreciation on capital improvements made to a leased property as per Explanation 1 to Section 32 of the Income Tax Act.

2. What kind of expenses qualify as leasehold improvements?

Expenses such as flooring, false ceilings, electrical fittings, plumbing, and partitions typically qualify as capital improvements.

3. Does ownership of the building matter for claiming depreciation?

No, ownership of the building is not mandatory. If the taxpayer has incurred capital expenditure for business purposes on leasehold premises, depreciation can be claimed.

4. What was the key dispute in this case?

The AO disallowed depreciation on leasehold improvements, while the assessee argued that such improvements qualify for depreciation. Both CIT(A) and ITAT ruled in favor of the assessee.

5. What was the amount involved in the case?

The dispute involved an addition of ₹53,42,103 for the Assessment Year 2012–13.

Conclusion

The ITAT’s ruling in Add Lounge Service Pvt. Ltd. vs. Revenue sets a clear precedent for businesses operating on leased properties. Expenditure on leasehold improvements, when incurred for the purpose of business, qualifies as capital expenditure eligible for depreciation. This decision reinforces the interpretation of Explanation 1 to Section 32 and provides much-needed clarity for taxpayers and professionals dealing with similar cases.