The decision is expected to provide major relief for companies such as IL&FS and IDFC, allowing them to benefit from similar deductions. The ruling will clearly help companies defer taxes up to 40% while computing their business income and will help improve the internal rate of return of financing companies, especially during the ongoing credit crunch, Rahul Garg, executive director Price WaterhouseCoopers said.
The landmark ruling comes in the case of Rural Electrification Corporation (REC), which had entered into pre negotiated loans with several state electricity boards, including those of Nagaland and Tamil Nadu to provide long term finance. It allowed many of them to convert loans given at a higher rate of interest to a lower rate. In return, it was paid 50% of the difference in the interest payment as a swapping premium.
In the assessment year 2004-05, REC had claimed tax deduction under section 36 (1) (viii) of the Income Tax Act on the swapping premium amounting to Rs 170.58 crore.
The claim was however not accepted by the revenue department arguing that this premium or profit was incidental in nature and not directly related to its business of providing long-term financing.