Sales Tax Incentives under Maharashtra’s 1979 and 1983 Industrial Schemes Are Capital Receipts, Not Liable to Income Tax: Bombay High Court

“Incentive Received Post-Production Still Capital If Granted for Setting Up Industry” – Form of Subsidy Irrelevant, Bombay High Court delivered a significant ruling in Income Tax Appeal involving Reliance Industries Ltd. and Bajaj Auto Ltd., resolving the contentious issue of whether sales tax incentives granted under the Maharashtra Government’s 1979 and 1983 industrial promotion schemes should be taxed as revenue receipts or excluded as capital receipts.

The Court, speaking through Justice Sandeep V. Marne and Chief Justice Alok Aradhe, held unequivocally that the incentives under the schemes were capital receipts aimed at promoting industrialization in backward regions, and hence, not chargeable to tax. The judgment brings finality to decades-old conflicting positions taken by the Income Tax Appellate Tribunal (ITAT) in the two cases.

“The form or the mechanism through which the subsidy is given is irrelevant... what needs to be applied is the ‘purpose test’,” the Court declared, relying heavily on a series of landmark decisions by the Supreme Court including Sahney Steel, Ponni Sugars, and Chaphalkar Brothers.

Conflict Between Two ITAT Rulings on Identical Schemes

The appeals stemmed from divergent ITAT decisions—while the ITAT held in favour of Reliance Industries Ltd. by treating the subsidy as capital receipt, it ruled against Bajaj Auto Ltd., treating the same form of incentive as revenue receipt. Both companies had received benefits under Maharashtra’s State Industrial Promotion schemes (1979 and 1983), which offered sales tax exemptions to incentivize new industries in underdeveloped areas.

In Bajaj Auto’s case, the ITAT upheld the tax department’s view that the incentive constituted a trading receipt. Conversely, in Reliance’s case, the ITAT treated the same benefit as a capital receipt. This conflicting stance compelled both the assessee and the revenue to approach the Bombay High Court under Section 260A of the Income Tax Act, 1961.

“Purpose Test Governs Tax Character of Subsidy” – Court Resolves Legal Issue

The central question before the Court was whether the incentives, though realized post-commencement of production and routed through sales tax mechanisms, were capital or revenue in nature. The Court answered in favour of the assessees, holding:

“If the object of the assistance under the subsidy scheme was to enable the assessee to set up a new unit or expand the existing unit, then the receipt of subsidy was on capital account... The form or the mechanism through which the subsidy is given is irrelevant.”

This interpretation was grounded in the Supreme Court's judgment in CIT v. Ponni Sugars & Chemicals Ltd., (2008) 9 SCC 337, which clarified that the purpose for which the subsidy is granted, and not the manner or timing of disbursal, is the determining factor for its tax character.

Reliance on Apex Court Rulings: Sahney Steel, Ponni Sugars, Chaphalkar Brothers

The Bombay High Court meticulously examined three Supreme Court decisions that have settled the law on this issue:

• In Sahney Steel & Press Works Ltd. v. CIT, the Supreme Court drew a distinction between subsidies given for setting up business (capital) and those given for carrying on business (revenue).

• In Ponni Sugars, the Court held that the “purpose test” must be applied: “The point of time at which the subsidy is paid is not relevant. The source is immaterial. The form of subsidy is immaterial.”

• In Chaphalkar Brothers, the Supreme Court reiterated that even if the subsidy is disbursed post-commencement of production, it would still be capital in nature if the object was to incentivize setting up of new enterprises.

Citing these cases, the High Court rejected the Revenue’s argument that the linkage between subsidy and post-production sales implied a revenue nature.

“The manner of provision of incentive by adjusting the same against sales tax liability post-production was merely a form or the mechanism, through which the subsidy was routed and the same has absolutely no relevance for determining the ‘purpose’ for which the incentive was provided.”

Analysis of 1979 and 1983 Maharashtra Schemes: “Subsidy Meant for Industrial Development, Not Profit Augmentation”

After analyzing the relevant Government Resolutions (1979 and 1983), the Court found that both schemes were designed to:

• Promote industrialization in backward areas,

• Decongest the Mumbai-Thane-Pune industrial belt, and

• Encourage fixed capital investment.

The eligibility of the assessee companies under the schemes was determined solely on the amount of capital investment made and the location of the new industrial units. The subsidy was not linked to profitability or operational efficiency but was rather an incentive for capital deployment.

In Bajaj Auto’s case, for instance, the eligibility certificate issued by SICOM allowed the company to retain sales tax collected from customers up to 90% of the gross value of fixed capital investment for its new unit at Waluj, Aurangabad.

“The incentive was not aimed at saving the amount of sales tax on products manufactured with a view to earn higher profits... it was granted to promote setting up of the new industrial units in backward areas of the State,” the Court held.

Revenue's Argument Rejected: “Sales Incentives Not Meant for Assisting Day-to-Day Business”

The Revenue relied on Sahney Steel and argued that since the subsidy was realized only after production began, it must necessarily be in the nature of revenue support. It also emphasized that the sales tax exemption operated on a “post-production” basis and was linked to the company’s turnover.

The Court rejected this view as a misapplication of the law, observing that the Revenue had ignored the critical distinction that Sahney Steel itself made:

“If the monies are given only after and conditional upon commencement of production, such subsidies must be treated as assistance for the purpose of trade,” but only if the purpose of the subsidy is to assist in trade operations, not if it is meant for setting up the unit.

ITAT's Divergent Orders Harmonized

In perhaps the most important part of the judgment, the Bombay High Court reconciled the ITAT’s conflicting rulings in the cases of Reliance and Bajaj Auto. It held that:

“The Tribunal has failed to appreciate the real nature and purpose of the incentive scheme and has erroneously mixed up the concept of adjustment of incentive after commencement of production with the purpose for which the incentive is granted.”

Thus, the Court harmonized both cases by applying a consistent legal approach and Supreme Court precedent, restoring certainty to an area mired in interpretative confusion.

Incentives Under Both Schemes Are Capital Receipts, Not Taxable

Accordingly, the Bombay High Court:

• Allowed Bajaj Auto’s appeal and set aside the ITAT’s decision that treated the subsidy as revenue income.

• Dismissed the Revenue’s appeal in the case of Reliance Industries, affirming the ITAT’s decision that the incentive was capital in nature.

“We hold that the incentive/subsidy received by the Assessees under the 1979 Scheme and 1983 Scheme were on capital account, not chargeable to tax.”

This judgment is expected to have significant implications for the classification of government subsidies and industrial incentives across the country.

Date of Decision: 03 July 2025