For computing profits of a business taxable under this Act, only revenue expenses are allowed to be deducted. Hence it becomes essential to distinguish a revenue expenditure from a capital expenditure. The following tests can be applied for this purpose
(i) Nature of the assets. Any expenditure incurred to acquire a fixed asset or in connection with installation of fixed asset is capital expenditure.
Any expenditure incurred as price of goods purchased for resale along with other necessary expenses incurred in connection with such purchase are revenue expenses.
(ii) Nature of liability. A payment made by a person to discharge a capital liability is a capital expenditure.
An expenditure incurred to discharge a revenue liability is revenue expenditure, e.g., amount paid to a contractor for cancellation of contract to construct a factory building is capital expenditure whereas amount paid by a person—with whom he has entered into contract for supply of goods for a period of 5 years—but he fails to supply goods after 3 years, the compensation will be a revenue expenditure as it is to discharge the revenue liability.
(iii) Nature of transaction. If an expenditure is incurred to acquire a source of income, it is capital expenditure, e.g., purchase of patents to produce picture tubes of T.V. sets.
An expenditure incurred to earn an income is revenue expenditure, e.g., salary of the staff, advertisement expenses, etc.
(iv) Purpose of transaction. If the amount is spent on increasing the earning capacity of an asset, it is capital expenditure, e.g., expenditure incurred for fitting new windows of factory building.
Any expenditure incurred on keeping an asset in running condition is revenue expenditure, e.g., amount spent on protection of fixed assets which have already been acquired.
(v) Nature of payment in the hands of payer. If an expenditure is incurred by an assessee as a capital expenditure, it will remain as capital expenditure even if the amount may be revenue receipt in the hands of receiver, e.g., purchase of motor car by a businessman is capital expenditure in his hands although it is revenue receipt in the hands of car dealer. Similarly, if the nature of payment in the hands of payer is of revenue nature, it will be a revenue expenditure even if it is capital receipt in the hands of receiver.
- Cost of reconstructing, refurnishing, etc. of a business building.
- Payment made by the assessee with a view to keeping his competitor out of his field of business.
- Expenditure incurred in converting business premises when switching over from manufacture of one product to another.
- Expenditure on litigation in connection with acquiring or curing a defect in assessee’ s title to the assets of the business.
- Compensation paid for cancellation of contract for the purchase of machinery.
- Price paid for the purchase of partner’s share in the firm.
- Expenditure incurred on the maintenance of business reputation.
Any such expenditure incurred wholly, totally, necessarily for the business.
- Payments made for use of quota rights, or for use of patents and trade marks.
- Payment made for technical assistance and access to the fruits of continuing research [C.I. T. v. Ciba of India Ltd. (1968) 69 1. T.R. 692 (S. C.)].
- Expenditure incurred by professionals on study tour abroad to acquire latest knowledge [Dr. Vadamalayan v. C.I. T. (1960) 40 I. T.R. 50].
- Any expenditure necessary at the time of purchase to render the asset so purchased, serviceable, will be added to the initial cost as capital expenditure. But any expenditure on the replacement of part of a plant which does not bring any additional advantage to the business of assessee is revenue expenditure [C.I. T. v. Shri Rama Sugar Mills Ltd. (1952) 91 1. T.R. 191].
- Expenditure incurred to send employees abroad for practical training in the field of the business of the assessee.
- Expenditure incurred by way of fee paid to valuer for assessing the business premises.
- Expenditure incurred in raising loans, e.g., stamp duty, registration and legal fees, brokerage etc.
- Expenditure to oppose threatened nationalization of the industry.
- Expenditure incurred to secure overdraft facilities from a bank.
- Payment to the government to obtain monopoly to run buses on a route.
- Compensation or other payment made to get rid of a servant or a managing agent in the interest of the business.