Madhya Pradesh High Court: In a batch of Income Tax appeals filed by the Department of Income Tax against respondent-Northern Coalfields Ltd. (NCL), related to multiple assessment years raising substantial questions of law under Section 260-A of the Income Tax Act, 1961 (Income Tax Act), a Division Bench of Suresh Kumar Kait, CJ., and Vivek Jain,* J., partly allowed the appeals. The Court upheld the Tribunal’s orders in relation to education, community development, and other welfare expenditures. However, regarding deduction of Overburden Removal (OBR) expenses as revenue expenditure, the Court ruled in favor of the Revenue and held them as capital expenditure.
Factual Matrix
In the instant matter, the Northern Coalfields Ltd. (NCL), a public sector undertaking under the Government of India, is engaged in opencast coal mining operations in Singrauli district, Madhya Pradesh. The company undertakes extraction of coal using mechanized mining techniques, including the removal of large quantities of overburden layer of earth and rock above coal seams.
Over the assessment years in question, NCL claimed various expenditures as revenue expenses under Section 37(1) of the Income Tax Act, 1961. These included costs towards Overburden Removal (OBR), community development, education, social and environmental welfare, and machinery depreciation. The Income Tax Department, while conducting assessment, disallowed several of these claims and held them to be capital in nature or lacking direct nexus with business purposes.
A total of fourteen appeals were filed under Section 260-A of the Income Tax Act, originating from diverse assessment years but were clubbed due to overlapping issues. The principal questions revolved around the treatment of OBR expenses post-initial development, the classification of education and community development expenditures, and the allowability of additional depreciation under Section 32(1)(iia). Disputes also extended to the legal implications of established accounting practices and the binding nature of National Coal Wage Agreements on expenditure classifications. The assessee consistently maintained that once a mine reaches 25% of its annual rated capacity, it enters the operational phase, thereby making subsequent OBR expenses deductible as revenue expenditure.
Appellant’s (Revenue) Contentions
The appellant submitted that expenditures claimed by NCL, particularly towards OBR, were in the nature of capital expenditure. It was argued that removing overburden, even after reaching 25% operational capacity, directly contributes to developing or reviving the mine by exposing new coal seams. Hence, such activities are not revenue-generating in themselves but enhanced the capital base of the enterprise.
It was further contended that the benchmark of 25% production capacity adopted by the assessee lacked statutory backing and was merely a managerial convention. It was contended that the Department disputed the allowability of expenditures towards education, community development, and sports on the ground that these lacked a proximate connection with income-generating activities and were not incurred wholly and exclusively for the purpose of business.
Respondent’s (Assessee) Contentions
The respondent contended that its expenditure on OBR, post reaching the 25% threshold, related to the working of the mine and not its development. It was stated that removal of successive layers of overburden was a continuous process integral to coal extraction and did not create any enduring benefit to the business beyond facilitating day-to-day operations. It was contended that the classification of mines into development and revenue phases had been consistently followed by the assessee and previously accepted by the Department, creating a legitimate expectation under settled accounting principles.
With regard to education, welfare, and social expenditure, the respondent relied on obligations under the National Coal Wage Agreements (NCWA) and argued that these expenses are mandatory under binding contracts and served to ensure industrial peace, employee satisfaction, and compliance with regulatory norms.
Court’s Observations
Overburden Removal (OBR)
The Court rejected the 25% threshold approach as an “artificial distinction… without any sanctity of law.” The Court noted that removal of overburden is recognized as a preparatory activity. The Court held that the removal of overburden after exhaustion of a coal seam amounts to an act of mine development and not an ordinary business expense as the activity brings into existence a benefit of enduring nature by enabling access to untouched coal reserves, thereby falling within the realm of capital expenditure.
“Once a seam of coal is exhausted and another layer of overburden is encountered, its removal constitutes a capital activity because it revives the mine.”
Drawing analogy from Rule 3(k) of the Mineral Conservation and Development Rules, 2017, and various precedents including R.B. Seth Moolchand Suganchand v. CIT, (1973) 3 SCC 257, the Court held that such expenditure was in the nature of capital expenditure.
“It is held that the said question is a pure question of law rather a substantial question of law… the removal of that surface or seam of overburden would amount to a capital activity…”
The Court held that OBR expenses, even post 25% production, remain capital in nature and not allowable as revenue expenditure under Section 37(1) of the Income Tax Act. Accordingly, the Court answered the question in favor of the Revenue.
Educational and Community welfare expenses
The Court noted that the educational expenses are incurred as part of obligations under the National Coal Wage Agreement (NCWA) and covered running of schools like Kendriya Vidyalaya, DPS, and DAV for employees; children.
“The expenses are in the nature of business expenses… in terms of National Coal Wage Agreements.”
The Court held that community welfare expenses on water, lighting, roads, etc., in nearby villages are due to some staff residing in the villages and the need to reduce public resentment to ensure smooth operations.
“These expenditures are incurred wholly and exclusively for the purpose of business… and fall within the realm of commercial expediency.”
For sports and recreation expenses, the Court stated that expenses under this head are made as per NCWA and duly audited by CAG.
“There was commercial expediency… a happy employee would do a better job.”
The Court upheld the Tribunal’s finding that educational and community welfare expenses incurred pursuant to wage agreements are deductible as business expenditure. The Court noted that such agreements had statutory force, and the expenses were directly linked to employee welfare, making them commercially expedient. The Court relied on K. Ravindranathan Nair v. CIT, (2001) 1 SCC 135, where it was held that expenditures which promote smooth functioning of business, even if indirectly, are eligible for deduction under Section 37. Accordingly, the Court answered the question in favor of the Assessee.
Court’s Decision
The Court partly allowed the appeals and held that:
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Questions of law regarding OBR were answered in favor of Revenue.
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Other questions relating to education, welfare, community development, depreciation, etc., were answered in favor of the Assessee.
[CIT v. Northern Coalfields Ltd., MAIT No. 79/2004, Decided on 15-04-2025]
*Judgment by Justice Vivek Jain
Advocates who appeared in this case :
Shri Siddharth Sharma with Shri Harpreet Singh Gupta, Shri Shantanu Sharma, Shri Shubhashish Shrivastava, Shri Shubham Manchani, Shri Devendra Prajapati and Shri Satyam Shukla, Counsel for the Appellant/Income Tax Department
Shri C.S. Agrawal, Sr. Advocate with Shri Abhijeet Shrivastava and Shri Amit Shrivastava, Counsel for the Respondent
