Income Tax Appellate Tribunal - Kolkata
Dcit vs S.G. Investments And Industries Ltd. on 29 May, 2003
Equivalent citations: [2004]89ITD44(KOL), (2004)84TTJ(KOL)143
ORDER
C.L. Sethi, J.M.
1. The present appeal is filed by the revenue against the order dated 08-01-1992 passed by the CIT(A) in the matter of an assessment order made Under Section 143(3) of the I.T.Act, 1961 for A.Y. 1998-99.
2. The solitary ground raised by the revenue in this appeal is as under:-
"That, on the facts and in the circumstances Ltd. CIT(A) erred in law allowing expenses related to exempted dividend income violating provisions of Section 14A and also the provisions contained in Sub-section (5) of Section 115-O of the Act."
3. The A.O. has discussed the issue in his asstt. order wherein it is stated that the assessee is an investment company, who had also traded in papers during the year under consideration. He noticed that the assessee's paid up capital was Rs. 16,86,17,780/- and the assessee had taken loans to the tune of Rs. 21,51,38,978/- as reflected in Schedule 'C' of the Balance-sheet. During the year the investments have been shown at Rs. 11,24,21,048/- as reflected in Schedule 'E' of the Balance-sheet. The assessee had debited a sum of Rs. 3,69,36,637/- as interest including interest on inter-corporate deposits, loans and dividends. The assessee had shown dividend income to the tune of long term investments and claimed as exempted Under Section 10(33) of the Act. The A.O. required the assessee to give break-up of the costs relating to earning of dividend income and to explain as to why the costs related to earning of exempted dividend should not be disallowed. It was explained by the assessee that no cost could be apportioned for earning dividend income inasmuch as the assessee in course of business activities had borrowed funds from time to time and incurred interest expenditure on such borrowing which were utilised for the purpose of its business activities and the interest paid thereon is deductible Under Section 36(1)(iii) of the Act. It was explained by the assessee that primary object of owing was essentially for the purpose of business and due to holding of shares beyond cut-off date the assessee became recipient of dividend and, therefore, the receipt of dividend could not be considered as a sole positive factor for the borrowing of loans by the assessee. It was also stated that the assessee held shares to control interest in group cases of Duncan-Goenka Group or held shares as stock-in-trade. The assessee placed reliance mainly on the decision of Hon'ble Calcutta High Court in the case of CIT v. Rajiv Lochan Kanoria, 208 ITR 616 (Cal) and the decision of Hon'ble Supreme Court in the case of Rajasthan State Warehousing Ltd. v. CIT, reported in 242 ITR 450. Having considered the explanation given by the assessee and considering the ratio of the decision cited by the assessee, the A.O. took a view that pro-rata expenses on account of interest as relatable to earning of dividend is not allowable as expenditure inasmuch as it was revealed that the income of the assessee for last several year had been essentially from investment activities and the shares were held by the assessee as investment. The A.O. therefore determined the sum of Rs. 19,14,940/- out of total interest paid of Rs. 3,69,36,637/- as interest relatable to earning of exempted dividend by working out the percentage of dividend vis-a-vis total turnover during the year. The calculation worked out by the A.O. is as under:-
"Total turnover Sale of papers : Rs. 6,72,02,717/-
Other income : Rs. 1,12,33,497/- Rs. 7,84,36,214/-
Dividend earned during the year is Rs. 41,38,924/- which is roughly 5.27% of total earnings. Interest debited in the profit and loss account is Rs. 3,69,36,637/-, 5.27% of this interest is treated as relatable to earning of exempted dividend which comes to Rs. 19,14,940/-. The same is disallowed as cost relatable to income on which no tax is payable i.e. exempted dividend."
4. Being aggrieved the assessee preferred appeal, before the CIT(A) who deleted the disallowance of interest of Rs. 19,14,940/- by taking in a view the decision of various courts wherein it was held that where borrowed money is utilised for the purchase of shares and dealing in shares is one of the business activities of the assessee then the interest expenditure incurred on the money borrowed for the purpose of purchase of shares is deductible Under Section 36(1)(iii) and cannot be apportioned as relatable to dividend income and also taking in view the decision that the interest expenditure incurred in relation to indivisible business activity comprising of dealing in various activities cannot be identified relatable to any independent business activity. Hence the department is in appeal.
5. The Ld. D.R. has submitted that the A.O. was justified in disallowing proportionate interest of Rs. 19,14,940/- as relatable to earning of exempted dividend income as the shares were held by the assessee as investment, and as such the proportionate interest is to be treated as incurred in relation to earning of dividend income. He has made a reference to the newly inserted Section 14A and 115-O of the Act in support or his contentions.
6. The Ld. counsel for the assessee, on the other hand, has contended that as the assessee has borrowed capital for the purpose of its business and has paid interest thereon, the interest expenditure incurred on such borrowing is fully allowable as deduction Under Section 36(1)(iii) of the Act, and such deduction is not dependent on whether the resultant profit is taxable or not. He further submitted that it would be incorrect to say that if the part or whole of the profits or income is not taxable, expenditure incurred for the purpose of earning profit cannot be allowed deduction. In this connection reliance was placed by the Ld. counsel for the assessee, on the following amongst others, decisions :-
i) CIT v. Indian Bank Ltd., 56 ITR 77 (SC)
ii) CI v. Maharashtra Sugar Mills Ltd., 82 ITR 452 (SC)
iii) Rajasthan State Warehousing Corporation Ltd. v. CIT, 242 ITR 450 (SC)
iv) CIT v. United Collieries Ltd., 203 ITR 857 (Cal.) It was further submitted by the assessee's Ld. counsel that the interest expenditure was incurred in relation to its indivisible business activities comprising of dealing in papers, shares, securities, etc. and the earning of dividend cannot be identified as an independent business activity and so apportionment of interest expenditure to dividend income is not called for.
7. We have carefully considered the rival contentions, facts and circumstances of the case, material on record as well as the relevant provisions of law and the case law cited at the Bar. The only point we are required to decide is whether, on the facts and circumstances of the instant case, the A.C. is justified in disallowing the proportionate interest of Rs. 19,14,940/- out of total interest of Rs. 3,69,36,637/- paid on borrowed amount on the ground that the said expenditure of interest is not allowable deduction as it was incurred in relation to the earning of dividend income, which is exempted Under Section 10(33) of the Act and does not form part of the total income under the Act.
8. Before we go to decide the issue before us, we find it necessary to set out the relevant provisions of the Income-tax Act, 1961 with which we are dealing:
"14A. For the purpose of computing the total income under this Chapter, no deduction shall be allowed in respect of expenditure incurred by the assessee in relationship to income which does not form part of the total income under this Act."
9. A new Section 14A in Chapter IV of the Income-Tax Act, 1961 was inserted by the Finance Act, 2001, with retrospective effect from 1-4-1962. The Circular No. 14 of 2001, dated 22-11-2001 issued by the CBDT and the purpose for which the amendment was made has explained the substance of Section 14A in the following words:-
"25. No deduction for expenditure incurred in respect of exempt income against taxable income.
25.1 Certain incomes are not includible while computing the total income, as these are exempt under various provisions of the Act. There have been cases where deductions have been claimed in respect of such exempt income. This in effect means that the tax incentive given by way of exemptions to certain categories of income, is being (SIC) also the tax payable on the non-exempt income by debiting the expenses incurred to earn the exempt income against taxable income. This is against the basic principles of taxation whereby only the net income, i.e., gross income minus the expenditure, is taxed. On the same analogy, the exemption is also in respect of the net income. Expenses incurred can be allowed only to the extent they are relatable to the earning of taxable income.
25.2 Through Finance Act, 2001, a new Section 14A has been inserted so as to clarify the intention of the legislature since the inception of the Income-tax Act, 1961, that no deduction shall be made in respect of any expenditure incurred by the assessee in relation to income which does not form part of the total income under the Income-tax Act.
25.3 Vide Circular No. 11/2001 dated 23rd July, 2001, a direction was issued by the Central Board of Direct Taxes that the assessments where the proceedings have become final before the first day of April, 2001 should not be re-opened Under Section 147 of the Act to disallow expenditure relatable to the exempt income by applying the provisions of Section 14A of the Act. This circular has been issued by the Board by exercising its power to issue beneficial circular Under Section 119(2)(a) of the Income-tax Act.
25.4 This amendment takes effect retrospectively from 1st April, 1962, and accordingly, applies in relation to the assessment year 1962-1963 and subsequent assessment years."
(726 Statutes) 2003 CTR.
The notes on clauses relating to the Finance Bill, 2001 and as well the memorandum explaining the provisions of Finance bill 2001 and the purpose for which Section 14A was inserted is on the similar line as given in aforesaid circular No. 14 of 2001, dated 22-11-2001. Further, in Section 14A of the Act, the following proviso was inserted by the Finance Act, 2002 with effect from the 11th day of May, 2001, namely:-
"Provided that nothing contained in this section shall empower the Assessing Officer either to reassess Under Section 147 or pass on order enhancing the assessment or reducing a refund already made or otherwise increasing the liability of the assessee Under Section 154 for any assessment year beginning on or before the 1st day of April, 2001"
This proviso to Section 14A is inserted to clarify that no re-assessment Under Section 147 or rectification Under Section 154 shall be made for any assessment year beginning on or before 1st April, 2001. The Explanatory notes on provisions of Section 14A as amended by the Finance Act, 2002 has been given in Circular No. 8 of 2002, dated 27th August, 2002, stating as follows:-
"23. Amendment of Section 14A "23.1 Though the Finance Act, 2001, a new Section 14A was inserted in the Income-tax Act retrospectively with effect from 1st April, 1962 to clarify the intention of the legislature that no deduction shall be allowed in respect of any expenditure incurred by an assessee in relation to income which does not form part of the total income under the Income-tax Act. The intention of inserting the new section retrospectively was to set the existing controversy on this issue at rest and not to unsettle the cases by raising the issue afresh.
23.2 Through Finance Act, 2002, a proviso to Section 14A has been inserted so as to clarify that the Assessing Officer shall not reassess the cases Under Section 147 of pass an order enhancing the assessment or reducing a refund already made or otherwise increasing the liability of the assessee Under Section 154, for any assessment year beginning on or before the 1st day of April, 2001.
23.3 This amendment takes effect retrospectively from 11th May, 2001, that is, the date on which the Finance Bill, 2001 received the assent of the President of India."
10. Dividend income is exempt in view of Section 10(33) inserted from 1st April, 1998, by Finance Act, 1997. The exemption of dividend from inclusion in the total income is coupled with Section 155-O requiring the company to pay tax. The Section 10(33) (as applicable for the asstt. year 1998-99) and Section 115-O reads as follows:
10(33) :
"10. In computing the total income of a previous year of a person, any income falling within any of the following clauses shall not be included-
33. any income by way of dividends, referred to in Section 115-O"
However the said Clause (33) as inserted by the Finance Act, 1997, w.e.f. 1-4-98 was later substituted by a new clause by the Finance Act, 1999 w.e.f. 1-4-2000 whereby it was provided that income received by respect of units from the Unit Trust of India or from a mutual fund specified Under Section 10(23D) will aos not form part of total income.
"115-O. (1) Notwithstanding anything contained in any other provision of this Act and subject to the provisions of this section, in addition to the income-tax chargeable in respect of the total income of a domestic company for any assessment year, any amount declared, distributed or paid by such company by way of dividends (whether interim or otherwise) on or after the 1st day of June, 1997 (but on or before the 31st day of March 2002) (the words in bracket have been inserted by the Finance Act, 2002 w.e.f. 1-4-2003) whether out of current or accumulated profits shall be charged to additional income (hereafter referred to as tax on distributed profits at the rate of ten percent.
(2) Notwithstanding that no income-tax is payable by a domestic company on its total income computed in accordance with the provisions of this Act, the tax on distributed profits under Sub-section (1) shall be payable by such company.
(3) The principal officer of the domestic company and the company shall be liable to pay the tax on distributed profits to the credit of the Central Government within fourteen days from the date of -
(a) declaration of any dividend; or
(b) distribution of any dividend; or
(c) payment of any dividend whichever is earliest.
(4) The tax on distributed profits so paid by the company shall be treated as the final payment of tax in respect of the amount declared, distributed or paid as dividends and no further credit therefor shall be claimed by the company or by any other person in respect of the amount of tax so paid.
(5) No deduction under any other provision of this Act shall be allowed to the company or a shareholder in respect of the amount which has been charged to tax under Sub-section (1) or the tax thereon."
11. A closer look at the provisions contained in Section 10(33) and Section 115-O of the Act makes it abundantly clear that income by way of dividend referred to in Section 115-O shall not be included in computing the total income of a previous year of any person. Section 115-O, which has been inserted by the Finance Act, 1997 provides the provision relating to tax on distributed profits by way of dividends of domestic companies. Sub-section (5) of Section 115-O further states that no deduction under any other provisions of the Act shall be allowed to the company or a shareholder in respect of the amount which has been charged to tax under Sub-section (1) of Section 115-O or the tax thereon. The liability to pay additional tax on dividends declared and paid by the domestic company Under Section 115-O of the Act is notwithstanding anything contained in any other provisions of the I.T.Act and is subject to the provisions of Section 115-O. The Section 115-O(1) beginning with the expression "notwithstanding anything contained in any other provisions of this Act" is to give the provisions of Section 115-O(1), in case of conflict, an over-riding effect over any other provisions of the I.T.Act, 1961. It is thus clear that Section 115-O(1) is a specific provision over-riding in case of conflict, the general provisions. The Sub-section (5) of Section 115-O has made it clear that no deduction under any other provisions of I.T.Act shall be allowed to the company or a shareholder in respect of dividend income which has been charged to tax Under Section 115-O(1) or the tax thereon. Thus, this sub-section has restricted the allowability of all deductions which may otherwise be allowable under any other provisions of the Act, against dividend income. In means that the interest paid for borrowing used for purpose of acquiring shares which has resulted in earning of dividend, and all other expenses in relating to the earning of dividend income will not be allowed as deduction under any other provisions of I.T.Act.
12. Prior to insertion of Section 10(3) and 115-O of the Act, any dividend declared, distributed or paid by a company to its shareholder was chargeable to tax under the head "Income from other sources" irrespective of the fact whether shares were held by the assessee as investment or stock-in-trade as provided in Section 56 of the Act. Section 57 of the Act provides for certain deductions in computing the income chargeable under the head "Income from other sources". Heading Section 57 and Section 58 of the Act, it is plain that the expenditure, not in the nature of capital expenditure and personal expenses of the assessee, laid out or expended wholly and exclusively for the purpose of making or earning the income during the relevant year are permissible deduction in computing the income chargeable under the head "Income from other sources".
13. Regarding the claim for eduction of interest paid on monies borrowed for purchase of shares held as investment, we may observe that before insertion of Section 10(33) and 15-O of the Act, the deduction for interest paid on monies borrowed for acquiring the shares held as investments could have been normally claimed Under Section 57(iii) of the Act against dividend income. It cannot be claimed so now due to the explicit provisions of Sub-section (5) of Section 115-O read with Section 14A of the Act inasmuch as such dividend income does not form part of total income chargeable to tax. To find out the answer to the question whether interest paid on borrowed monies for acquiring the shares held as investment can be construed as an expenditure laid out or expended wholly and exclusively for the purpose of making or earning dividend, we may refer to the following decisions :-
i) CIT v. Model Manufacturing Co. (I) Ltd. (1980) 122 ITR 767 (Cal) wherein it was held-
"that though the ultimate or ulterior motive of the assessee might have been to confer controlling interest either to itself or to NK and TK, the immediate purpose for acquisition of the shares was to earn income for the dividends thereof and the Tribunal was, therefore, right in holding that the interest was deductible Under Section 57 against its income from other sources."
The word "purpose" in Section 57 cannot mean the motive for a transaction; much less can it mean the ulterior motive or ulterior object of the transaction."
ii) CIT v. Rajendra Prasad Moody (1978) 115 ITR 519 (SC)-
The plain natural construction of the language of Section 57(iii) of the Income-tax Act, 1961, irresistibly leads to the conclusion that to bring a case within that section it is not necessary that any income should in fact have been earned as a result of the expenditure. What Section 57(iii) requires is that the expenditure must be laid out or expended wholly and exclusively for the purpose of making or earning income. The section does not require that this purpose must be fulfilled in order to qualify the expenditure for deduction : it does not say that the expenditure shall be deductible only if any income is made or earned.
Where the assessee borrowed monies for the purpose of making investment in certain shares and paid interest thereon during the accounting period relevant to the assessment year but did not receive any dividend on the shares purchased with those monies : Held, accordingly, that the interest on monies borrowed for investment in shares which had not yielded any dividend was admissible as a deduction Under Section 57(iii) of the Income-tax Act, 1961, in computing its income from dividend under the head "Income from other sources".
iii) CIT v. L.N. Dalmia (1994) 207 ITR 89, 104 (Calcutta)-
"Moreover, it has been submitted on behalf of the assessee that the assessee is entitled to submit before this court that the said deduction should be allowed under the head "Other sources" though against the decision of the Tribunal that such interest was to be capitalised being part of cost of acquisition of shares has not been appealed against. IT is well-settled that an allowance for deduction can be upheld on a ground other than that on which it was allowed by the Tribunal. We, accordingly, hold that the interest in question in the present case cannot be part of the cost of (SIC) from the investment in question and it can be considered to be set off against the income from other sources. In the circumstances this issue is answered saying that the said sum on account of interest is allowable as deduction under the head "Other sources"."
14. Further, where borrowing are made for the purpose of acquiring shares in the course of or as an integral part of the business, a question often arises whether interest paid is deductible Under Section 36(1)(iii) or Under Section 57(iii) of the Act. It is often contended by the assessee that the interest paid by the assessee on the amounts borrowed for purchasing shares held either as stock-in-trade or held on investment portfolio as an integral part of the business is allowable in its entirety Under Section 36(1)(iii) of the Act, which states that the deduction for the amount of the interest paid in respect of capital borrowed for the purpose of the business or profession shall be allowed in computing the business income referred to in Section 28 of the Act, and that any portion of that interest is not to be allocated as against income from dividends, though it is assessable under the head "Income from other sources". In the similar line, the Ld. counsel for the assessee has putforward his arguments to contend that, in the facts and circumstances of this case, the portion of interest paid on moneys borrowed is not allocable against dividend income, which is now exempted from income-tax, as the interest expenditure incurred by the assessee-company in respect of capital/funds borrowed by it for the purpose of making investment in shares securities represents the interest expenditure incurred by the assessee for the purpose of its business activity and accordingly the same is allowable Under Section 36(1)(iii) of the Act, even though the resultant profit or income from such investment in the form of dividend is exempt from tax Under Section 10(33) of the Act. This view or the contention of the assessee, in our considered opinion, is now devoid of any merit particularly in the light of insertion of new Section 14A and 115-O of the Act. It is now immaterial whether the shares are held as stock-in-trade or an investment portfolio as an integral part of business or are held as investment as such from the point of allowability of deduction for expenditure incurred in relation to dividend income which do not form part of the total income by virtue of Section 10(33) of the Act. The reasons are hereunder:
15. It is, by now, settled that the expression "for the purpose of business" occurring in Section 36(1)(iii) and also in Section 37(1) of the Act is wider in scope than the expression "for the purpose of making or earning income" occurring in Section 57(iii) of the Act. Therefore, the scope for allowing a deduction Under Section 36(1)(iii) of the Act would be much wider than the one available Under Section 57(iii) of the Act. The test to be satisfied Under Section 36(1)(iii) is that the capital must be borrowed for "the purpose of business" though the test laid down Under Section 57(iii) is that the expenditure must be laid out and expended wholly and exclusively for the purpose of making or earning income referred therein. In the light of such difference between the scope of Section 36(1)(iii) and 57(iii) of the Act it has been held by one school of thoughts that where shares are held as an integral part of the business, interest on capital borrowed for acquiring shares was allowable Under Section 36(1)(iii) of the Act without any apportionment thereof Under Section 57(iii) against dividend income, which was chargeable to tax under the head "Income from other sources". To support the above contention of one school of thought, a reference is being made to a decision in the case of CIT v. Cotton Fabrics Ltd. (1981) 131 ITR 99 (Guj.), wherein the Hon'ble Gujarat High Court has held that interest on moneys borrowed for the purpose of the business of the assessee to be allowed deduction Under Section 36 in its entirety and not apportioned towards dividend income and business income where assessee's business income includes "Income from dividends". It was further held therein that although income from dividend is to be computed in accordance with the provisions of Sections 56 and 57 it still forms part of the business income of the assessee. On similar line, the decisions in following cases are also being referred to:-
a) CIT v. Tingri Tea Co. Ltd., 79 ITR 294 (Cal)
b) Banarasi Dasgupta v. CIT, 106 ITR 559 (All.)
c) M.P. Jatia v. CIT, 118 ITR 200 (SC)
d) Addl. CIT v. Laxmi Agents P. Ltd., 125 ITR 227(Guj.)
e) CIT v. D.G. Goenka, 127 ITR 260(Bom.)
16. It was further held by the various courts that where an assessee is carrying on one indivisible business in various ventures and some among them yield taxable income and others do not, the entire expenditure is a permissible deduction without any apportionment. The crux of this school of thought is that if the exempted income and the taxable income are earned from one and indivisible business then the apportionment of the expenditure cannot be made. In this connection the following decisions are noteworthy to be mentioned:-
a) CIT v. India Bank Ltd., 56 ITR 77(SC)
b) CIT v. Maharashtra Sugar Mills Ltd., 82 ITR 452(SC)
c) Punjab State Co-operative Supply and Marketing Federation Ltd. v. CIT, 128 ITR 189 (P & H)
d) Rajasthan State Warehousing Corporation Ltd. v. CIT, 242 ITR 450 (SC) The general principle laid down in these cases has been summerised by the Hon'ble Supreme Court vide its decision delivered on 23-2-2000 in the case of Rajasthan State Warehousing Corporation Ltd. (supra) as follows:-
"(i) if income of an assessee is derived from various heads of income, he is entitled to claim deduction permissible under the respective head whether or not computation under each head results in taxable income;
(ii) if income of an assessee arises under any of the heads of income but from different items, e.g., different house properties or different securities, etc. and income from one or more items alone is taxable whereas income from the other item is exempt under the Act, the entire permissible expenditure in earning the income from that head is deductible; and
(iii) in computing "profits and gains of business or profession" when on assessee is carrying on business in various ventures and some among them yield taxable income and the others do not, the question of allowability of the expenditure Under Section 37 of the Act will depend on:
(a) fulfillment of requirements of that provision noted above; and
(b) on the fact whether all the ventures carried on by him constituted one indivisible business or not; if they do, the entire expenditure will be a permissible deduction but if they do not, the principle of apportionment of the expenditure will apply because there will be no nexus between the expenditure attributable to the venture not forming an integral part of the business and the expenditure sought to be deducted as the business expenditure of the assessee."
17. But, now the situation is clarified as a result of insertion of Section 14A of the Act, and the decisions of various courts not allowing the apportionment of interest against dividend income are now of no help to the assessee. The purpose of inserting Section 14A is to nullify the decision in Rajasthan Warehousing Corporation's case (supra) to the extent it relates to the cases of indivisible business as discussed below.
18. The Legislative intention behind the introduction of Section 14A of the Act with retrospective effect from 1-4-62 can be traced out from language used and the memorandum explaining the said provisions inserted by the Finance Act, 2001 and 2002. The concerned memorandums have already been reproduced above. Taking into consideration the language used the memorandums and the Notes on clauses it appears-
(i) Certain incomes are not includible while computing the total income as these are exempt under various provisions of the Act;
(ii) There are cases where deductions have been claimed in respect of such exempt income, which means that the tax incentive given by way of exemptions to certain categories of income is being used to reduce also the tax payable on the non-exempt income by debiting the expenses incurred to earn the exempt income against taxable income;
(iii) The act of debiting the expenses incurred to earn the exempt income against taxable income is against the basic principles of taxation whereby only the net income, i.e., gross income minus the expenditure is taxed.
(iv) Therefore, the exemption is also in respect of the net income.
(v) Expenses incurred can be allowed only to the extent they are relatable to the earning of taxable income.
(vi) Section 14A was, therefore, inserted so as to clarify the said intention of the Legislature since the inception of the Income-tax Act, 1961 and to set the existing controversy on this issue at rest and not to unsettle the cases by raising the issue afresh.
The insertion of Section 14A with retrospective effect is the serious attempt on the part of the Legislature not to allow the deduction in respect of any expenditure incurred by the assessee in relation to income, which does not form part of the total income under the Act, against the taxable income. The Legislature has further clarified its intention that the expenses incurred can be allowed only to the extent they are relatable to the earning of taxable income. The Legislature has, therefore, made an attempt to curb the practice used to reduce the tax payable on the non-exempt income by debiting the expenses incurred to earn the exempt income against taxable income. The language used by the legislature in the statute and the Memorandum issued by the legislature makes it amptly clear that the legislature was very well aware that the deduction of expenses in respect of exempt income were been claimed in full against taxable income. It was, therefore, clarified that expenses incurred can be allowed only to the extent they are relatable to the earning of taxable income. The nature of expenses incurred by he assessee may, therefore, be related partly to the exempt income and partly to the taxable income, but the intention of the legislature is to allow the expenses only to the extent they are relatable to the earning of taxable income. In the new Section 14A of the Act, the language "expenditure incurred in relation to income which does not form part of the total income under the Act" appears to have wider implications as the word "In elation to income has a broader meaning than the word "for the purpose of making or earning income" used in Section 57(iii) of the Act. The word "in relation to" has not been defined under the I.T.Act. It is to be understood in the context in which it is used. The Legislature was well aware that the expression "for the purpose of making or earning income" used in Section 57(iii) has a narrower meaning. If the legislature had the intention to give a narrower implication to newly inserted Section 14A as given to Section 57(iii), it would have used the similar expression for the purpose of computing total income under Chapter IV" no deduction shall be allowed in respect of expenditure incurred by the assessee wholly and exclusively for the purpose of making or earning income which does not form part of the total income under the Act" also in Section 14A of the Act. The expression "in the relation to" used by the legislature in newly inserted Section 14A of the Act is a broader expression having regard to the object behind the introduction of the provisions of Section 14A, which is inserted with an object (1) to disallow expenditure incurred in respect of exempt income against taxable income, (ii) to allow the expenses incurred only to the extent they are relatable to the earning of taxable income and (iii) to allow the exemption in respect of the net income. The expression "in relation to" used in Section 14A of the Act has both direct significance as well as indirect significance having regard to the context in which it is used. It can also be gathered from the memorandum explaining the provisions of Section 14A stating that in the absence of any such provision like that of Section 14A the expenditure incurred in respect of exempt income was being claimed against taxable income though the Legislature had no such intention since the inception of the Income-tax Act, 1961. The amendment by inserting Section 14A was thus made retrospective with effect from 1-4-1962, and the Legislature has stopped in and declared that the expenditure incurred in relation to exempt income shall not be allowed for the purpose of computing the total income under Chapter IV of the Act. The mandate of the provisions of Section 14A is very clear. It desires to curb the practice to claim deduction of the expenses incurred in relation to exempt income against taxable income and at the same time to avail the tax incentive by way of exemption of exempt income without making any apportionment of expenses incurred in relation to exempt income. Viewed in the light of the object behind the introduction of the provisions of Section 14A and the scheme of the Act to charge tax on net income and to allow exemption also in respect of net income, the expression "expenditure incurred by the assessee in relation to income which does not form part of the total income" should be given a wider meaning and it cannot be construed in a narrow or restricted manner. If such a wider meaning is given, the said expression would encompass not only the direct or proximate expenditure incurred for the purpose of making or earning exempt income, but it would include all other expenses attributable or in relation to exempt income. In other words, it would signify or imply both direct and indirect relationship between expenditure and exempt income. The narrow interpretation to the said expression will really defect the object behind the provisions of Section 14A of the Act as in much as in this case the assessee, on the one hand, would get tax incentive given by the Legislature by way of exemptions of income and, on the other hand, would claim the deduction of expenses incurred in relation to exempt income against taxable income. This could never be the intention of the Legislature to allow the expenditure incurred in relation to exempt income against taxable income. As observed above, the memorandum explaining the provisions of Section 14A the Legislature has also clarified its intention that the exemption is in respect of the net income and the expenses incurred can be allowed only to the extent they are relatiable to the earning of taxable income.
19. Now, we find it appropriate at this stage to make a useful reference to Section 80A, 80AA (omitted w.e.f. 1-4-1998), 80AB and 80B(5) of the Act dealing with the deductions to be made from gross total income while computing total income under the Act. On reading these sections we find that the intention of the legislature is to allow deductions, in computing the total income, under Chapter VIA of the Act from the gross total income, only that part of income which is computed in accordance with the provisions of the Act and is included in the gross total income. What these sections mean is that the net income computed in the manner provided by the provisions of the Act and included in the gross total income alone be taken into account for computing the deductions available under Chapter VI-A of the Act. A larger Bench of the Hon'ble Supreme Court in the case of Distributors (Baroda) P. Ltd. v. Union of India (1985) 155 ITR 120 (SC), while dealing with Section 80AA of the Act has held that the deduction Under Section 80A is to be calculated with reference to the amount of dividend computed in accordance with the provisions of the Act and forming part of the gross total income and not with reference to the full amount of dividend received by (SIC) deduction Under Section 80M was to be computed with reference to the net dividend income and not gross dividend income was, in this retrospective operation, was held merely declaratory of the law as it always had been since April 1, 1968 by the Supreme Court in that case of Distributors (Baroda) P. Ltd. and as such no complain can be validly made against the retrospective operation of the Section on the ground that it enhances the tax burden of the assessee and, therefore, infringes the fundamental right of the assessee under Article 19(1)(g) of the Constitution of India. On the parity of reasoning as given in Distributors (Baroda) P. Ltd. (supra) holding Section 80AA, in its retrospective operation, merely declaratory at the law as it always had been since 1st April, 1968, when the provisions of Chapter-VIA were introduced, it must be held that Section 14A is enacted to declare the law as it always stood since the inception of the Act that expenses incurred can be allowed only to the extent they are relatable to the earning of taxable income and the exemption is always in respect of the net income being in accordance with the basis principles of taxation whereby only the net income, i.e., gross income minus the expenditure, is taxed.
20. We further find it appropriate to refer the scheme of the Act as contained in Chapter IV of the Act containing the provisions for the purpose of computing the total income. In contains Section 14 to 59. Section 14 reads as under:-
"14. Save as otherwise provided by this Act, all income shall, for the purpose of charge of income-tax and computation or total income, he classified under the following heads of income:-
A. - Salaries B. - Omitted C. - Income from house property D. - Profits and gains of business or profession.
E. - Capital gains.
F. - Income from other sources."
It is, thus, seen that Section 14 specifies five heads of income which are chargeable to tax. In order to be chargeable, an income has to be brought under one of these five heads. It classifies all income into five heads for the purposes of charge to income-tax and computation of total income. The 'total income' has been defined in Section 2(45), to mean "the total amount of income referred to in Section 5, computed in the manner laid down in this Act". Sections 15 to 59 of the Act lay down the rules for computing income for the purpose of chargeability to tax under the five heads as mentioned in Section 14. Sections 15 to 59 of the Act quantify the total income chargeable to tax. The permissible deductions enumerated in Sections 15 to 59 are to be allowed only with reference to income which is brought under one of the heads in Section 14 and is chargeable to tax only. In other words, computation of total income under one or more of the sections from Section 15 to Section 59 is to be made only for the purpose of chargeability to lax. The income is to be brought under one of the heads in Section 14 and can be charged to tax only if it is chargeable under the provisions of the Act, here there being no income chargeable to tax under the Act, the question to bring the same under any of the five heads of income specified in Section 14 could not arise and consequently the same would not form part of total income. If any income is not a part of total income, the expenditure deduction though of a nature specified in Sections 15 to 59 but related to the income not forming part of total income could not be allowed or considered against other income includible in the total income for the purpose of chargeability to tax. There could be no such intention of the Legislature and a scheme of the Act to allow deductions related to income not forming part of the total income, against the income includible in the total income and chargeable to tax. The expression "for the purpose of charge of income-tax and computation of total income" used in Section 14 amply clarifies the intention of the legislature and the scheme of the I.T. Act, 1961.
21. The theory of apportionment of the expenditure between taxable income and non-taxable income has, in principle, been accepted by various courts even before the intention insertion of Section 14A of the Act provided it is shown that the activities undertaken or the business carried on constitute distinct, separate and divisible one as approved by the latest decision of the Hon'ble Supreme Court in the case of Rajasthan State Warehousing Corporation v. CIT (supra). Further in the case of Waterfalls Estates Ltd. v. CIT (1996) 219 ITR 563 the Hon'ble Supreme Court has laid down that if the ventures carried on by an assessee do not constitute one indivisible business, the principle of apportionment of the expenditure will apply. The Hon'ble Calcutta High Court in the case of CIT v. United Collieries Ltd., 203 ITR 857 has laid down that deduction Under Section 80M is allowable only on the net income which is arrived at after taking into account the expenditure actually incurred for the purpose of earning the divisible income. The Hon'ble Madras High Court inthe case of CIT v. Chemical Holdings Ltd. (2001) 249 ITR 540 (Mad.) has held that the investment in share having been out of borrowed capital, the interest payment on such borrowings was clearly an amount, which was required to be regarded as expenditure laid out wholly and exclusively for the purpose of earning dividend income. It was observed therein by the Madras High Court that it is not possible to hold that an assessee has, by reason of being a dealer in shares, an option not available to other assessees also deriving income from dividend out of shares held as investment, to deduct the interest paid on the amount borrowed for investing in shares for which dividend is earned as expenditure in relation to his business and deduct the same Under Section 36(1)(iii) of the Act. The decision of Gujarat High Court in the case of CIT v. Cotton Fabrics Ltd. (supra) was dissented from, by the Madras High court in the case of CIT v. Chemical Holdings Ltd. (supra), which was decided on 20th December, 2000. However, the principle of apportionment of expenses between taxable income and exempt income has now become widened in view of classification given by way of insertion of Section 14A in Chapter IV of the Act. The view expressed by Madras High Court in the case of CIT v. Chemical Holdings Ltd. (supra), in our considered view, have thus be one more strengthened and appears to be more correct and sound law in the light of specific provisions contained in Section 14A, which, in its retrospective operation, is merely declaratory of the law as it was always since the inception of the Act inasmuch as having regard to the scheme of the Act and basic principles of taxation it could never be intention of the legislature to allow expenses incurred to earn the exempt income against taxable income and at the same to grant exemption on gross amount of exempted income.
16. On considering the various decisions of courts and the position of law as has been emerged out therefrom and considering the totality of the discussion made above there is no doubt in saying that in case where the monies are borrowed for the purchase of shares to be held as investments the interest on borrowings has to be considered and allowed as deduction while computing the income from dividend. In other words, the interest on borrowings, in such cases, is to be treated as expenditure relatable to the earning of dividend income. The whole dispute lies in cases where the monies are borrowed for purchase of shares to be held as stock-in-trade and interest on borrowings is claimed as business expenditure Under Section 36(1)(iii). In later cases, the dividend income arising from the shares held as stock-in-trade would amount to business income notwithstanding the fact that they are otherwise assessable under different heads by virtue of specific provisions of the Act, and as such it would be contended that interest paid on the monies borrowed which were utilised for the purchase of shares to be held as stock-in-trade amounts to interest paid for the purpose of the business and, therefore, fully allowable as deduction Under Section 36(1)(iii) without treating the same as relatable to earning of dividend income. This view has been expressed by various courts before the insertion of Section 14A of the Act as observed and discussed above. However, the position has now been clarified as a result of insertion of Section 14A in the statute. As observed and discussed above, the effect of Section 14A is to allow the expenses incurred only to the extent they are relatable to the earning of taxable income as (SIC) had been since the inception of the Act. It is true that the dividend income arising from shares held as stock-in-trade is business income in the sense that the dividend is realised from the trading asset, but, at the same it has to be brought in mind that part of the business income in the nature of dividend is not includible in the total income by virtue of the same being exempted Under Section 10(33) of the Act, and as such it is not understood as to why the interest incurred to the extent it is capable of being regarded as expenditure in relation to part of the business income in the nature of dividend should not be adjusted against exempted dividend income. The extent of benefit allowed by Parliament for dividend income is an amount which is required to be calculated with reference to the net dividend. It is not possible to suggest that an assessee has, by reason of being a dealer in shares or holding the shares as trading assets, an option not available to other assessees also deriving income from dividends out of shares held as investment, to deduct the interest paid on the amount borrowed for investing in shares for which dividend is earned as expenditure in relation to his business Under Section 36(1)(iii) of the Act. It is common knowledge that no dividend could be earned without making investments as the dividend could have been earned only after investments are made. When it is found that investment in shares are made out of borrowed capital, it is then not understood as to why the interest paid on such borrowings should not be regarded as expenditure incurred in relation to earning of dividend income. The amount of such interest is, therefore, required to be deducted from dividend income before computing the amount of the dividend on which exemption Under Section 10(33) is to be allowed. Relief by way of exemption in to be given only on the net amount of the dividend, i.e. after deducting from the gross dividend the expenditures incurred in relation thereto. The interest paid by the assessee being attributable to the money borrowed for the purpose of making the investment which yielded the dividend and other expenses incurred in connection with or for making or earning the dividend income can be regarded as an expenditure incurred in relation to dividend income.
17. While construing the meaning of and interpreting the provisions of Section 14A of the Act as given by us above, we have borne in our mind the well settled principles of interpretation of statutes which, for the sake of brevity, are not elaborately discussed here but are summarised as below:
i) The statute has to be read in conformity with the clear and basic legislative intent behind the enactment.
ii) Where the language is clear, the intention of the legislature is to be gathered from the language used.
iii) The intention of the legislature can also be gathered from its Memorandum explaining the statute.
iv) The expressions or words used in the statute should ordinarily be understood in a sense in which they best harmonise with the object of the statute, and which effectuate the object of the Legislature. Therefore, if more than one construction is possible, that which preserves its workability and efficacy is to be preferred to the one which would render it otiose or sterile. In that view of the matter, the court should not adopt a construction which would upset or even impair the purpose in introducing a particular provision in the statute. Thus, a purposive approach for interpreting the Act is necessary.
v) The principle contained in "Heydon's mischief rule" are to be kept in mind for giving a true and correct interpretation of all statutes. These well-known rules have time and again been discussed and followed by various courts and as such need not to be reproduced here.
vi) Due regard must be had not only to the existing law but also to prior legislation and to the judicial interpretation thereof.
18. To give a support to our views as expressed in para 16 above, we may refer also to a decision of the Hon'ble Supreme Court in the case of CIT v. United General Trust Ltd. (1993) 100 ITR 488 arising from the decision of the Bombay High Court in CIT v. United General Trust P. Ltd. (1979) 119 ITR 664 refusing to call for the statement of case on the question whether the assessee would be entitled to the deduction Under Section 80M of the I.T.Act, 1961, on the gross dividend received from a domestic company before deduction of the proportionate management expenses. In this case, on appeal preferred by the Department, the Hon'ble Supreme Court allowed the departmental appeal and held that the application Under Section 256(2) of the act made by the Revenue shall be deemed to have been allowed, a reference made, and answered the question in favour of the Department. The effect of this judgment is thus that the proportionate management expenses are to be deducted from the gross dividend for the purpose of the relief Under Section 80M. The decision of Supreme Court in Distributors (Baroda) P. Ltd. v. Union of India (1985) 115 ITR 120 (SC) was applied in this case.
19. Having said so, we now proceed to appreciate the facts and circumstances of the case in hand with a view to decide the question that falls before us for our adjudication. As unfolded from the assessment order and from the submission of the assessee, it is found that the assessee company was engaged in the business of dealing in papers and was also an investment company. There is no dispute that the assessee-company had borrowed funds from time to time for the purpose of its business activities including the activities of acquiring of shares. It is not the assessee company's case that the shares were acquired not out of borrowed funds. The assessee-company's case is only that as the shares were acquired in the course of its business activities, and the funds were borrowed for the purpose of its various indivisible business activities, the entire amount of interest expenditure incurred by the assessee-company is deductible Under Section 36(1)(iii) of the Act without any apportionment against the dividend income earned from shares so acquired. To decide the issue, we find it appropriate to see at the first stage as to whether the shares acquired by the assessee-company were held as investment or trading assets. We have carefully perused the relevant profit & loss a/c., computation of total income and companies of assessment orders/intimation for the immediate preceding assessment years 1993-94 to 1997-98 and find that the assessee has been declaring capital gain arising out of sale of investment in shares and were also assessed accordingly meaning thereby that the shares were held as investment. During the year under consideration also, long term capital loss arising out of sale of shares after considering the benefit of indexed cost of acquisition has been assessed at Rs. 7,73,362/-. There is no dispute about the proposition that interest paid on borrowed capital used in acquiring shares held as investment is to be deducted from the dividend income as observed by us in foregoing paras. In this view of the matter, we, therefore, hold that the proportionate interest on borrowed capital relatable to the acquisition of shares held as investment is to be considered against dividend income earned from shares. Even otherwise, the proportionate interest paid on borrowed capital is to be considered against dividend income even if shares are held as trading assets or are acquired in course of business activities as discussed and observed above by us analysing and interpreting, inter alia, the scheme of the Act as well as the provisions of Section 14A of the Act.
20. We further observe that the assessee has at no stage of the proceedings disputed the A.O.'s mode of computing the interest amount of Rs. 17,14,940/- being relatable to the acquisition of shares and to the earning of dividend income. It is pertinent to note here that the A.O. has only allocated the pro-rata interest expenses as relatable to earning of dividend income and not all other expenses giving the benefit of doubt to the assessee that all other expenses were mainly incurred for the trading business.
21. Furthermore, we observe that in the assessee's own cases for the assessment years 1980-81 and 1982-83, the Tribunal had allocated 5% of the gross dividend as expenses incurred by the assessee company for the purpose of earning dividend to calculate the deduction Under Section 80M of the Act implying thereby that the theory of apportionment of expenses between different nature of income was followed by the (SIC)
22. On a careful consideration of the entire facts and circumstances of the case and in view of the above discussion and observation made by us including the judicial decisions and the relevant provisions of the Act referred to hereinabove, and for the reasons given by us, we have no hesitation to decide the issue in favour of the Revenue and against the assessee. In short, the order of the CIT(A) is set aside and that of the A.C. is restored on the issue involved in this appeal. We, therefore, hold that the A.O.'s action in disallowing against taxable business income, the pro-rata expenses on account of interest as relatable to earning of exempted dividend income and appropriating the same against exempted dividend income is justified and in order. The A.O. shall modify the assessment order accordingly.
23. In the result, the appeal, filed by the a Revenue, stands allowed.