The Companies Act, 1956
208. Power of company to pay interest out of capital in certain cases.
(1) Where any shares in a company are issued for the purpose of raising money to defray the expenses of the construction of any work or building, or the provision of any plant, which cannot be made profitable for a lengthy period, the company may
(a)pay interest on so much of that share capital as is for the time being paid up, for the period and subject of the conditions and restrictions mentioned in sub-sections (2) to (7); and
(b)charge the sum so paid by way of interest, to capital as part of the cost of construction of the work or building or the provision of the plant.
(2) No such payment shall be made unless it is authorised by the articles or by a special resolution.
(3) No such payment, whether authorised by the articles or by special resolution, shall be made without the previous sanction of the Central Government.
The grant of such sanction shall be conclusive evidence, for the purposes of this section, that the shares of the company, in respect of which such sanction is given, have been issued for a purpose specified in this section.
(4) Before sanctioning any such payment, the Central Government may, at the expense of the company, appoint a person to inquire into, and report to the Central Government on, the circumstances of the case; and may, before making the appointment, require the company to give security for the payment of the costs of the inquiry.
(5) The payment of interest shall be made only for such period as may be determined by the Central Government; and that period shall in no case extend beyond the close of the half-year next after the half-year during which the work or building has been actually completed or the plant provided.
(6) The rate of interest shall in no case except four per cent per annum or such other rate as the Central Government may, by notification in the Official Gazette, direct.
(7) The payment of the interest shall not operate as a reduction of the amount paid up on the shares in respect of which it is paid.
(8) Nothing in this section shall affect any company to which the Indian Railway Companies Act, 1895 (10 of 1895), or the Indian Tramways Act, 1902 (4 of 1902) applies.
This provision gives statutory recognition to the principle of capitalizing the interest in case the interest is paid on money raised to defray expenses of the construction of any work or building or the provision of any plant in contingencies mentioned in this section even though such money constitutes share capital. The same principle also holds good if interest is paid on money not raised by way of share capital but taken on loan for the above purposes; Challapalli Sugar Ltd. v. Commissioner of Income Tax, 1975 (3) SCC 572: AIR 1975 SC 97.