Criteria for qualification of deduction u/s 42 of the Income Tax Act

This Income Tax Appellate Tribunal ruling clarifies the criteria for claiming deductions on expenses related to oil and gas exploration and drilling under Section 42 of the Income Tax Act. The Tribunal found that drilling is an integral part of prospecting and exploration. Crucially, the judgement states that expenses incurred for exploration and development are allowable even if they occur after the commencement of commercial production, provided they are in line with the relevant agreements.

IN THE INCOME TAX APPELLATE TRIBUNAL “H” BENCH, MUMBAI

BEFORE HON’BLE SHRI AMARJIT SINGH, JM AND HON’BLE SHRI MANOJ KUMAR AGGARWAL, AM (Hearing through Video Conferencing Mode)

I.T.A. No.2545/Mum/2019

Assessment Year: 2007-08

Hindustan Oil Exploration Co. Ltd. Khetwari Darbar Road Off-Linking Road, Khar (W) Mumbai-400 052

PAN/GIR No. AAACH-1407-P

Appellant

Vs.

ACIT-12(2)(2) Aaykar Bhavan, 145A, 1st Floor M.K. Road Mumbai-400 020

Respondent

Assessee by:Shri Nishit Gandhi-Ld. AR
Revenue by:Shri Gurbinder Singh-Ld. DR

Date of Hearing:15/07/2021

Date of Pronouncement: 26/07/2021

ORDER

The assessee is in second round of appeal before us since the matter was earlier remanded back by co-ordinate bench of Tribunal (ITA No.61/Mum/2011 order dated 07/02/2014) to the file of Ld. Assessing Officer (AO)

2. The observation of the bench that drilling activity could not be separated from prospecting activity. The minerals are down to the earth’s crust and without drilling, the operations of prospecting and exploration could not be carried out. In the above background, Ld.AO was directed to verify the expenses and various details after considering relevant clauses of the agreement.

3.During appellate proceedings, the assessee pleaded that deduction in respect of expenses incurred for exploration and drilling is allowable even after commencement of commercial production. The Ld. AR also submitted that pursuant to the directions of Tribunal for AY 2009-10, Ld. AO allowed similar claim u/s. 42(1)(b). The assessee also submitted that it incurred various expenses for exploration and development before the blocks were put on commercial production. The expenses incurred by the Company were as per the PSC.

4. Upon perusal of assessment order, we find that the main reason to deny the deduction of expenditure is the conclusion of Ld. AO that expenses incurred for exploration or development were after the start of commercial production and therefore, the expenditure would not qualify for deduction u/s 42. The expenditure was for enhancement of productivity. Similar view was stated to be taken in AY 2006-07.

5. In view of the foregoing, we direct Ld. AO to allow the deduction of impugned expenditure.

The appeal stands allowed in terms of our above order.

Order pronounced on 26th July 2021

Please find attached the enclosed file for the full judgement