Interest earned on fixed deposits maintained as a mandatory requirement for business bank guarantees, rather than as idle surplus funds, is inextricably linked to the project and must be capitalized to the work-in-progress instead of being taxed as 'Income from Other Sources'.

आदेश / ORDER

PER MAKARAND VASANT MAHADEOKAR, AM:

This appeal filed by the assessee is directed against the order dated 13.10.2025 passed by the learned Commissioner of Income Tax (Appeals), National Faceless Appeal Centre, Delhi[hereinafter referred to as "CIT(A)"], under section 250 of the Income-tax Act, 1961[hereinafter referred to as "the Act"], arising out of the assessment order dated 17.12.2019 passed by the Assessing Officer under section 143(3) of the Act for Assessment Year 2017–18.

Facts of the Case

2. The assessee is a partnership firm engaged in the business of real estate development. The return of income for the year under consideration was filed on 30.07.2017 declaring total loss of Rs. 2,08,850/-. The case was selected for scrutiny and the assessment was completed under section 143(3) of the Act on 17.12.2019 determining total income at Rs. 35,49,250/-.

3. During the course of assessment proceedings, the Assessing Officer noted that the assessee had earned interest income of Rs. 37,58,095/- on fixed deposits maintained with Union Bank of India. The assessee had not offered the said income to tax but had capitalised the same to work-in-progress of its real estate project. On examination of the records, the Assessing Officer observed that the assessee had been allotted a Slum Rehabilitation Project at Nirmal Nagar by the Slum Rehabilitation Authority (SRA) and had furnished a bank guarantee backed by fixed deposits. However, the Letter of Intent issued by SRA was subsequently cancelled and the appointment of the assessee as developer stood terminated. The Assessing Officer further noted that SRA had communicated to the bank for release of the bank guarantee and, therefore, according to him, the project had effectively ceased.

4. In view of the above, the Assessing Officer held that there was no ongoing business activity during the year and the fixed deposits had no direct nexus with any active project. Accordingly, the interest income earned thereon was treated as income from independent sources and brought to tax under the head “Income from Other Sources” under section 56 of the Act. The amount of Rs. 37,58,095/- was added to the income of the assessee and the assessment was completed at Rs. 35,49,250/-. The Assessing Officer also initiated penalty proceedings under section 270A of the Act.

5. Aggrieved by the assessment order, the assessee preferred appeal before the learned CIT(A). During the appellate proceedings, it was submitted that the fixed deposits were not made as an independent investment but were created solely for the purpose of furnishing a bank guarantee to SRA, which was a mandatory requirement for execution of the redevelopment project. It was contended that the interest earned on such deposits had a direct and inextricable nexus with the project and, therefore, was rightly capitalized to work-in-progress in accordance with the consistent accounting practice followed by the assessee. The assessee further submitted that though the SRA had cancelled the Letter of Intent, the same was challenged before the Hon’ble Bombay High Court and the matter was sub judice. It was contended that the Hon’ble High Court had granted status quo and, therefore, the project continued to subsist in law. On this basis, it was argued that the nexus between the fixed deposits and the project continued to exist and the interest income could not be treated as income from other sources. Reliance was placed on various