Income Tax Appellate Tribunal - Ahmedabad
Aditya Medisales Limited,, Baroda vs Department Of Income Tax on 2 February, 2011
IN THE INCOME TAX APPELLATE TRIBUNAL
AHMEDABAD BENCH " D "
BEFORE SHRI N.S. SAINI,
SAINI, ACCOUNTANT MEMBER And
SHRI MAHAVIR SINGH, JUDICIAL MEMBER
Date of hearing :2-2-2011 Drafted on: 2-2-2011
ITA No.3974/AHD/2007
Assessment Year : 2004-05
The Deputy Vs. Aditya Medisales Limited,
Commissioner of 3 r d Floor, Synergy House,
Income tax,Circle-1(1) Gorwa Road,
Aayakar Bhavan, Subhanpura,
Nr. Race Course Baroda.
Circle, Baroda.
PAN/GIR No. :AABCA 9317 J
(APPELLANT) .. (RESPONDENT)
Appellant by : Shri Shyam Kumar, CIT (D.R)
Respondent by: Shri S.N. Soparkar,Sr.Adv.
ORDER
PER N.S.SAINI , ACCOUNTANT MEMBER :-
This is an appeal filed by the Revenue against the order of the Learned Commissioner of Income Tax (Appeals)-I, Baroda, dated 29-8-2007.
2. Ground No.1 reads as under:-
"1(a).On the facts and in the circumstances of the case and in law, the Learned Commissioner of Income Tax (Appeals) erred in deleting the disallowance of `.1,09,93,933/- (1,02,40,777 + 7,53,156) made out of the interest claimed under section. 36(1)(iii), being the differential amount of interest paid on the borrowings and that charged on the advances to associate concerns, including M/s. Virtuous Finance Ltd., made without any commercial expediency.
1(b) The Learned Commissioner of Income Tax (Appeals) failed to take note of the ratio of CIT vs. H.S. Sugar Factory Pvt. Ltd. 187 ITR 363(All) decided on identical facts, holding that the differential amount of interest paid @ 8% on the funds borrowed for carrying on business but advanced to directors @ 5% was not allowable as deduction.
1(c) The Learned Commissioner of Income Tax (Appeals) failed to appreciate the legal principle that, the affairs of the assessee being in his special knowledge in terms of section 106 of the Page 2 of 26 Evidence Act,. The onus under section 36(1)(iii) lies on the assessee to prove that each loan is used for the purposes of the business and there is no presumption in law that it is own capital or surplus funds that were diverted for non-business purposes, as settled in the cases of Kishanchand Chellaram vs. CIT 114 ITR 654 (Mad.), R.Dalmia vs. CIT 133 ITR 169 (Del), CIT vs. M.S. Venkateshwaran 222 ITR 163(Mad), K. Somasundaram & Brothers vs. CIT 238 ITR 939(Mad), CIT vs. Motor GeneralFinance Ltd. 254 ITR 449 (Del) [confirmed by the Supreme Court 267 ITR 381] and CIT vs. Abhishek Industries Ltd., 286 ITR 01 (P&H).3.
3. The Learned Commissioner of Income Tax (Appeals) has decided the issue as follows:-
"4. The first ground of appeal is regarding the addition made on account of the differential interest between the interest paid by the appellant @ 13% on its borrowings and interest charged by it @ 9.5% and 9% on the loan granted by it. The Assessing Officer required the assessee to explain reasons for charging interest at reduced rate from its various group companies to which the appellant replied that it had huge interest free funds; there were frequent transactions in these accounts and the money was payable on short call; the appellant cannot be dictated the terms on which it should run its business; notional income on account of charging of lower rate of tax cannot be taxed; the weighted average cost of the funds was much less than 12% or 10% hence there was no loss to the revenue and that on similar grounds the Learned Commissioner of Income Tax (Appeals) had deleted similar addition in the earlier assessment year. The Assessing Officer after examining the issue observed that the company had paid interest on cash credit accounts and short term borrowings. It was also observed that the company did not need any borrowed funds for pharmaceutical business and that there was a nexus between the borrowed funds and the amount advanced to the finance companies. The Assessing Officer also challenged the correctness of the appellant's contention that it had huge interest free funds available with it. Under the circumstances, he held that the interest paid on the borrowed capital which was used to finance these groups of companies and their finance transaction was not used for its own business purposes. He was also of the view that the onus was on the assessee to prove that the interest claim was deductible for which he relied upon the decision in the case of CIT v. Mir Mohammed Ali 53 ITR 165 (SC) and K.Soma Sunderam & Bros. vs. CIT 38 ITR
939. He further observed that although these additions made in the earlier year have been deleted by the Learned Commissioner of Income Tax (Appeals) but the Department has filed further appeal. Consequently, he made the disallowance of `.1,02,40,777/-.
5. The Learned Authorised Representative of the assessee submitted before the Learned Commissioner of Income Tax (Appeals) that this addition had been made in assessment year 1999-2000, 2000-01 & 2001-02 and 2003-04. It was also submitted that the Learned Commissioner of Income Tax (Appeals)-IV, Ahmedabad had deleted the said addition vide her order dated 14-7-2005 by following the decision of Learned Commissioner of Income Tax (Appeals)-II, Ahmedabad for assessment year 2001-02 dated 28-2-2004. The issue came before me also for Assessment Year 2003-04 and agreeing with the views of Page 3 of 26 the Learned Commissioner of Income Tax (Appeals), Ahmedabad, I decided the issue in favour of the assessee vide para-7 of my order dated 13-10-2006. Following the same the addition made during the year of `.1,02,40,777/- is deleted.
6. The second ground of appeal is regarding the disallowance of interest in respect of advances to Virtuous Finance Ltd. The Assessing Officer observed that the appellant had charged interest @ 10% in the year under consideration on its advances to M/s.VFL but had paid interest @ 13% on its borrowings during the year. The Assessing Officer observed that the facts and circumstances surrounding the transaction and charging of interest have been discussed in detail in block assessment order as well as in assessment year 1999-2000 in the appellant's own case. In response to the show cause, the appellant replied that VFL has used the funds advanced by the appellant for investment in the shares of M/s. Gujarat Lyka Organics Ltd., M.J. Pharmaceuticals Ltd., Ambalal Sarabhai Enterprises and TDPL. The interest charged from VFL has gradually decreased from 14% to 12% and 12% to 10% during the year depending upon the declining trend in the market. The appellant further submitted that there was no direct nexus between the funds borrowed and advances made to M/s. VFL and the appellant being the sole distributor of SPIL for the whole of India, the acquisition of companies like GLOL, MJPL, TDPL, contributed to the appellant's business growth. The Assessing Officer was not impressed with the appellant's explanation and held that it cannot be said that the money advanced to M/s. VFL was for business purposes. He relied upon the decision in the case of CIT v. Official Liquidator and Others 244 ITR 156, Mc Dwell & Co. Ltd., v. CTO 154 ITR 148 (SC), Govan Bros v. CIT 48 ITR 930, 941; CIT v. Doctor & Co., 180 ITR 627 (Bom.) and AV Thomas & Co. Ltd. vs. CIT 48 ITR.
7. The Learned Authorised Representative of the assessee submitted that this issue has also been decided in its favour in earlier years by the Learned Commissioner of Income Tax (Appeals) on identical facts. I have perused the order of the Learned Commissioner of Income Tax (Appeals)-IV, Ahmedabad for Assessment Year 2002-03 when I find that similar disallowance had been made in Assessment Year 2000-01 based on which the Learned Commissioner of Income Tax (Appeals) deleted the addition made in assessment year 2002-03. This issue came up before me in the appellant's own case for Assessment Year 2003-04 wherein the issue was decided in favour of the appellant vide my order dated 13-10-2006. Following the same, the addition made in Assessment Year 2004-05 of `.7,53,156/- is deleted."
4. At the time of the hearing both the parties agreed that the issue is covered in favour of the assessee by the decision of the Tribunal in the case of assessee itself vide consolidated order dated 30-9-2010 in Assessment Years 1999-00 to 2003-04 in ITA Nos.3272/Ahd.2002, 1623/Ahd/03, 1353 & 2180/Ahd/2005 and ITA No.8/Ahd/2007.
Page 4 of 265. We find that the Tribunal vide its order dated 30.9.2010 has held as under:-
"Adverting first to ground no.1 in the appeals for the AY 1999-2000 to 2003-04, facts ,in brief, as per relevant orders for the AY 1999- 2000 are that return declaring income of Rs.51,45,100/-. filed on 24-12-1999 by the assessee, distributing pharmaceuticals products apart from carrying on the business of leasing and financing as also share trading, after being processed on 10.7.2000 u/s 143(1)(a) of the Income-tax Act, 1961 [ hereinafter referred to as the "Act"] was selected for scrutiny with the issue of notice u/s 143(2) of the Act. In this case. a search was conducted on 7-12- 1998 and block assessment was completed on 31.12.2000. During the course of assessment proceedings, the Assessing of ficer[AO in short] noticed that the assessee company charged interest on their advances to f ollowing concerns @ 11% to 12% p.a.
1. Airborne Investment & Finance Private Limited
2. Alrox Investment & Finance Private Limited
3. Sun Petrochemicals Private Limited
4. Lakshdeep Investment & Finance Private Limited
5. Deeparadhana Investment & Finance Private Limited
6. Bridgestone Investment & Finance Private Limited
7. MacKinon Investment & Finance Private Limited 8.
8. Sholapur Organics Limited 2.1 Since the aforesaid concerns were finance and investment companies of the assessee's own group while in the preceding AY 98-99, the assessee was charging interest @ 18% to 20% pa from outsiders and as concluded in assessment order of the earlier year that charging of interest at a lower rate was not an action arising out of commercial expediency but more of a planning measure,the AO asked the assessee to explain the reasons for charging lower rate of interest from the aforesaid companies in the years under consideration. The assessee replied vide letter dated 18-2-2002 that the interest was charged at a lower rate @ 11/12% on account of the fact that the advances were for short and temporary period. The assessee explained that they had huge interest free own funds at its disposal and the average cost of funds was more than covered even by charging interest at 11/12% pa from these parties. The assessee also argued that charging of interest at lower rates cannot be assessed as income. While pleading that during the year under consideration, the assessee did not grant advances to outside parties nor received any interest and as such question of comparison between outside parties and group concerns did not arise, the assessee pointed out that the ld. CIT(A) had already deleted a similar addition in the AY 1998-99 .However, the AO did not accept the submissions of the assessee, inter alia ,on the ground that the assessee entered into a device to reduce their tax liability when it had made fresh borrowings @ 18% pa and paid interest @17.85% to bank while advancing funds to group concerns at lower rates and no commercial expediency was involved while advancing such funds at lower rates.Page 5 of 26
Accordingly, the AO concluded differential interest expense was not incurred wholly and necessarily for the purpose of assessee's own business ;rather the assessee had incurred the liability for the benefit of its associate concerns. Therefore, the AO disallowed the following amount of differential interest cost :
Rate of Interest Bank Born by Disallowed
Interest recovered Rate assessee differential
----------- ------------- ------- ----------- ---------------
12% Rs. 2,86,176 17.85% 4,25,687 1,39,511
11% Rs.12,79,419 " 26,76,148 7,96,729
---------------
3. Like wise, the AO disallowed an amount of Rs.2,03,792 /- calculated on page 6 of the assessment order for the AY 2000-01 and Rs. 3,26,683/- in the AY 2001-02 as mentioned on page 5 of the assessment order. Similarly an amount of Rs.844/-in the AY 2002-03 & Rs.46,28,510/- in the AY 2003-04 was also disallowed .
4. On appeal, the ld. CIT(A) deleted the disallowance in the AY 1999-2000 in the following terms:-
"5 Having regard to the overall facts and circumstances of the case and the decisions relied upon by the appellant, I am of the view that the appellant has a case to succeed. In fact in AY 1998-99 on similar lines the disallowance was made by AO which was subsequently deleted by CIT(A). The facts and figures provided reveal that the advances given to the parties in question from whom rate of interest has been charged are mainly short term advances basically in the nature of current account obviously fetching lesser rate of interest than the long term advances on which interest rate is normally higher. Further, it is not necessary to have recorded the terms and conditions for charging a particular rate of interest as the loans and advances are admittedly given by the assessee company to the group concerns in the course of normal commercial practice and with mutual understanding between the parties. It is also a fact that the assessee company has got substantial interest free own funds out of which the advances are made. It is not a case that interest bearing borrowed funds have been diverted to the group concerns interest free or on lower charge of interest or for the purpose other than the business. The decisions relied upon by the appellant duly support the case of the appellant. The disallowance of Rs.9,36,240/- is therefore ordered to be deleted."
5. Following his own findings in the AY 1999-2000, the ld. CIT(A) deleted the disallowance in the AYs 2000-01 to 2003-04 also.
6. The Revenue is now in appeal before us against the aforesaid findings of the ld. CIT(A). At the outset, both the parties agreed that issue is squarely covered in favour of the assessee by the decision dated 30.6.2006 of the ITAT in the assessee's own case for the AY 1998-99 in ITA no.1233/Ahd./2002.
7. W e have heard both the parties and gone through the facts of the case as also the decision of the ITAT. W e find that while Page 6 of 26 adjudicating a similar issue in their order dated 30-06-2006 in the assessee's own case for the AY 1998-99 in ITA No.1233/Ahd/2002, the Tribunal held as under:-
4. We have heard the rival contentions of both the parties. Looking to the facts and circumstances of the case, we find that the assessee was having interest free funds of Rs.13 Crores and in addition to that interest free security deposit of Rs.l1,58,000 with the assessee. We find that the assessee had frequent transactions with the above parties. In the case of CFI v. Radico Khaitan Ltd (274 ITR 354), Hon'ble Allahabad High Court has held -
"that in view of the findings recorded by the Tribunal that the assessee-company had sufficient funds other than the borrowed money for giving the amount in question as loan to its sister concern, which finding had not been specifically challenged in -the present appeal, the conditions of section 36(1)(iii) of the Act had been complied with and, therefore, the assessee-company was entitled to full allowance of the amount of interest paid by it on borrowed capital."
The finding recorded by the CIT(A) that -"It is also a fact that the Assessee Company has got substantial interest free own funds out of which the advances are made. It is not a case that interest bearing borrowed funds has been diverted to the group concerns interest free or on lower charge of interest or for the purpose other than the business" has not specifically challenged by the Revenue. Therefore, considering the facts and circumstances in its entirety and following the decision of Hon'ble Allabahad High Court in the case of CIT v. Radico Khaitan Ltd (274 ITR 354), we uphold the order of the C1T(A) in deleting the impugned addition of Rs.5,62,315/- made on account of difference in rates of interest."
7.1 Since the facts obtaining in the years under consideration are undisputedly similar to the facts obtaining in the preceding assessment year, we have no hesitation in upholding the findings of the learned CIT(A) in the light of the aforesaid decision of the ITAT in the assessee's own case for AY 1998-99. Therefore, ground no.1 in these appeals for the AY 1999-2000 to 2003-04 is dismissed.
8.1 Like wise an amount of Rs. 25,90,363/- was disallowed in the AY 2000-01 ,Rs. 8,38,036/- in the AY 2001-02 & Rs.12,23,482/- in the AY 2002-03.
9. On appeal, the ld. CIT(A) deleted the disallowance in the AY 1999-2000 in the following terms:
"8 This issue has been dealt with at great length by my predecessor while disposing the Appeal of the block assessment order of SPIL, I have perused the appellate order and find no reason to differ from the conclusions reached by my Page 7 of 26 predecessor. I have also carefully considered the contentions of the Assessing Officer, the Appellant and the facts on record it is to be noted that VFL is a non banking finance company. VFL has in the past associated with SPIL for the acquisition of various companies like MJPL, GLOL, TDPL, ASEL etc. In such cases huge funds, have been blocked for acquisition of strategic stakes on behalf of and at the behest of SPIL. These facts are not disputed. The Appellant being the authorized distributor of SPIL for the whole of India definitely stands to gain as it would be direct beneficiary of increase in the sale resulting for such strategic acquisitions. The sales growth track record produced before me also supports this fact. I cannot agree with the contention of the Assessing Officer that the benefits to the Appellant would be third party benefits. It is not necessary that any action on the part of an assessee should not result in benefits to any other person Rather, what is to be seen is whether the action was taken keeping in mind the benefits to flow to the assessee and whether such benefits have flown. The fact that it may have benefited some other person more than the assessee is not that relevant and certainly cannot be a basis for making the .disallowance It cannot also be denied that due to its inter-linked business interest with SPIL, the Appellant may also not be in a position to deny any such request made at the behest of SPIL. Due to these facts, VFL would not be in a position to earn commercial rates of return on the funds blocked for such purposes. It cannot be expected that VFL blocks huge funds to further the business interests of the Appellant while on the other hand continuing to pay interest on commercial terms to the Appellant. Charging of interest at lower rate of interest of 14% is according to me, under the circumstances, for the purpose of business.
9 The Appellant has also submitted that it has huge interest free funds amounting to Rs.3246 Lacs at its disposal. The advances to VFL were made exit of common pool of funds. On such facts, it is for the Assessing Officer to establish the nexus between the borrowed capital and interest free funds, in absence of this finding, no interest could be disallowed. It is also claimed that in absence of any direct nexus having been established by the Assessing Officer, the average cost of funds ought to be taken.
10 The contentions of the Appellant have significant merit. I therefore hold that the Assessing Officer is not justified in disallowing Rs.66,96.373/- out of interest. He is directed to delete the addition made."
9.1 Following his own order for the AY 1999-2000, the ld. CIT(A) deleted the disallowance in the AYs 2000-01 to 2002-03 also.
10. The Revenue is now in appeal before us against the aforesaid findings of the ld. CIT(A). At the outset, both the parties agreed that issue is squarely covered in favour of the assessee by the decision dated 31-05-2007 of the ITAT in the assessee's own case in IT(SS)A No.95/Ahd/2001 for the block period.
11. W e have heard both the parties and gone through the facts of the case as also the decision of the ITAT. W e find that while adjudicating a similar issue in their order dated 31-05-2007 in the Page 8 of 26 assessee's own case in IT(SS)A No.95/Ahd/2001 in appeal against block assessment, the Tribunal held as under:-
" 33. We have carefully considered the submissions of the parties alongwith the order of the tax authorities and the case laws cited before us. We noted that the main reason for the disallowance was that as per the Assessing Officer the"
reduction in interest was carried out as an after thought with a view to reduce the income of the Assessee in view of the losses in the hands of VFL. We find that the reduction in income of VFL was due to its blocking of funds in specified companies. The revenue has not disputed that advances to VFL was for business purpose and correspondingly interest @ 12% was allowed by the Assessing Officer. VFL has played a strategic role in the amalgamation and acquisition of various companies by SPIL which has directly benefited the assessee. In providing such support VFL could not earn income out of the amount blocked in other pharma companies which were being acquired or targetted for acquisition and thus charging interest at lower rate of interest can be adjusted as commercial expediency. We also find force in the contention of the A.R. that SPIL being the Flagship company of the group has power to dictate terms to the Assessee and so the Assessee has no option but to follow SPIL in its business decisions. Thus, in our view said reduction can be solely for the purpose of business and no other purpose can be assigned to it. In our view the Assessing Officer has placed heavy reliance on the notings found during the search. The said loose notings do not in any way establish the case of the department that the interest for the year had accrued and the same was subsequently reduced. In our opinion the assessing officer cannot enter into the shoes of the assessee and it is the businessman who knows better about the business decision.
34 In view of the above, we find no reason to interfere with the order of the CIT(A) and accordingly dismiss this ground raised by the Revenue. Thus, this ground stands dismissed."
11.1 Since the f acts obtaining in the years under consideration are undisputedly similar to the facts obtaining in the block assessment period, we have no hesitation in upholding the findings of the learned CIT(A) in the light of the aforesaid decision of the ITAT in the assessee's own case in IT(SS)A No.95/Ahd/2001. Therefore, ground no.2 in the appeals for the AY 1999-2000,2001- 02 & 2002-03 as also ground no. 7 in the appeal for the AY 2000- 01 are dismissed."
6. Facts being identical, respectfully following the precedent, we dismiss this ground of appeal of the Revenue.
7. The Ground No.2 reads as under:-
"2. On the facts and in the circumstances of the case and in law, the Learned Commissioner of Income Tax (Appeals) erred in deleting the disallowance of differential amount of interest of Page 9 of 26 `.1,19,20,920/- on overdue bills of M/s. Sun Pharmacuticals Industries Ltd. (SPIL), an associate concern, paid @ 15%when the assessee had charged interest on its advances @ 9.5% to 9% and had paid interest to the banks @ 13% only."
8. The Learned Commissioner of Income Tax (Appeals) has decided the issue as follows:-
"8. The third ground of appeal is regarding the disallowance of interest paid on overdue bills of `.1,19,20,970/-. The Assessing Officer observed that the appellant company has paid interest on overdue supplier bills of SPIL @ 15% while it has paid interest on borrowed funds for bank @ 13% and had charged interest on the advances given to the group finance companies @ 9.5% / 9% and therefore, held that the appellant was not giving consistent treatment to the loans and advances taken by it and given by it during the course of business. In response to the show cause, the appellant argued that it was the authorized dealer of all products of SPIL in the domestic market and was supposed to make on the spot payment to M/s. SPIL and that SPIL is in a dictating position as far as appellant's business is concerned and that the interest expenditure in the hands of the appellant becomes the income of SPIL so that there was no loss of revenue. It also argued that the rate of interest depended upon the overall interest rate prevailing in the market. The Assessing Officer did not feel convinced with the explanation. He observed that although the addition on this issue had been deleted by the Learned Commissioner of Income Tax (Appeals) in the earlier assessment years, the Department was in appeal against these orders in the ITAT. Dwelling upon the various arguments put forth by the appellant and rejecting them, the Assessing Officer made the addition of `.1,19,20,970/- representing the difference between the interest paid to the banks at 13% and paid on overdue supplier bills @ 15%.
9. Before me, the appellant has argued that the addition made in the earlier years on identical facts have been deleted by the Learned Commissioner of Income Tax (Appeals). He filed a copy of the order of the Learned Commissioner of Income Tax (Appeals)-IV, Ahmedabad in this regard and prayed that the addition be deleted. It has made detailed submissions also in this regard and has challenged the observations of the Assessing Officer made on Page-9 & 10 of the assessment order in this regard.
10. I have perused the order of the Learned Commissioner of Income Tax (Appeals), Ahmedabad for Assessment Year 2002-03 and I find that all the issues raised by the Assessing Officer in the assessment order have been squarely dealt with by the Learned Commissioner of Income Tax (Appeals) particularly at page-12 to 14 at para-5.2, since these issues and grounds existed in the earlier years assessment order also. The Learned Commissioner of Income Tax (Appeals) concluded "thus, from any point of view it is appreciated that the payment of interest to SPIL is for the purpose of business and there is no question of considering reasonableness thereof and making disallowance of part of such payment. It is seen that after considering all the facts of1 the case, in the immediately preceding year, the Learned Commissioner of Income Tax (Appeals) vide order dated 28-2-2004 for Page 10 of 26 assessment year 2001-02 has deleted the addition and I do not see any reason to differ with that order....". The similar issue came up before me in Assessment Year 2003-04 in the appellant's own case where in my order dated 13-10-2006 I have decided the issue in favour of the appellant. Following the same, the disallowance made by the Assessing Officer of `.1,19,20,970/- is deleted."
9. At the time of the hearing both the parties agreed that the issue is covered in favour of the assessee by the decision of the Tribunal in the case of assessee itself vide consolidated order dated 30-9-2010 in Assessment Years 1999-00 to 2002-03 in ITA Nos.3272/Ahd.2002, 1623/Ahd/03, 1353 & 2180/Ahd/2005 and ITA No.8/Ahd/2007.
10. We find that the Tribunal vide its order dated 30.9.2010 has held as under:-
"29. Ground No.3 in the appeals for the AY 2001-02 & AY 2002- 03 as also ground no. 2 in the appeal for the AY 2003-04 relate to disallowance of Rs.1,48,57,545/-,Rs.2,29,43,683/- and Rs.4,25,44,081/- respectively being interest paid to SPIL @ 21% pa on overdue balances resulting from purchases. The AO noticed during the course of assessment proceedings in the AY 2002-03 that the assessee paid interest on overdue supplier bills of Sun Pharmaceutical Industries Ltd. @ 21% p.a. and paid interest on borrowed funds from banks @15.5% pa while it charged interest from the advances given to the Finance Companies of the Sun Group @12% pa. To a query by the AO, the assessee submitted that a. they were authorized dealer of all products of M/s. SPIL in domestic market and are supposed to make on the spot payment to M/s. SPIL;
b. the rate of interest depended upon the overall interest rate prevailing in the market, business opportunities provided by M/s.SPIL to the assessee.
c. M/s. SPIL is in dictating position as far as business of M/s. Aditya Medisales Ltd. was concerned.
d. market rate of unsecured borrowings is very high.
e. the A.O cannot sit on the judgment over business decisions taken by the assessee.
f. the interest expenditure of the assessee becomes the income of M/s. SPIL and there is no loss of revenue.Page 11 of 26
29.1 However , the AO did not accept the submissions of the assessee on the ground that the assessee was not able to justify payment of interest to M/s. SPIL @21% when it availed loan from bank @15.50% and had offered advances to sister finance companies @12% interest. The assessee was involved in distribution of only formulation products of M/s SPIL while the bulk drugs manufactured by M/s SPIL were distributed by them only. Moreover, out of sales of SPIL Rs.611.43 crores in the AY 2001-02, sales to assessee were merely Rs.333 crores . The AO also found that it was not SPIL which was dictating the terms to the assessee rather it was other way round. Despite, voluminous increase in the turnover of M/s AML, the profitability of M/s AML was not increasing as evident from the following details.
F.Y. Total Sales (Rs.in lacs) Net profit as per Director's
Report (in lacs)
2000-01 37390 0.46
1999-00 30577 37.08
1998-99 22235 34.50
29.2 The AO further observed that the financial affairs of M/s.
AML were so managed so as to give the maximum benefits to M/s. SPIL by reducing the taxable profits of the latter, who were availing deduction u/s 80IA/80IB. In the light of aforesaid facts and circumstances, the AO disallowed an amount of Rs.1,48,57,545/- in the AY 2001-02, as calculated hereunder:
1 Interest paid @21% Rs.5,67,28,810/-
2 Interest to be paid at bank rate Rs.4,18,71,265/-
i.e., 15.50% Difference (1) - (2) Rs.1,48,57,545/-
30. Similarly, the AO disallowed an amount of Rs.2,29,43,683/- in the AY 2002-03 and Rs.4,25,44,081/- in the AY 2003-04.
31. On appeal, the ld. CIT(A) deleted the disallowance in the AY 2001-02 in the following terms:
"8.4 I have carefully considered the submissions of the appellant, the comments of the Assessing Officer and the reply of the appellant on the counter comments. The issue can not be decided without looking at the facts and circumstances of the case. The appellant is the authorized sole distributor of all formulation products of SPIL in India. The business of the appellant has grown Page 12 of 26 consistently as seen from the table and had dramatically increased from Rs.132.05 crores in A.Y. 98-99 to Rs.305.77 crores in A.Y. 2001-02. It is observed that the appellant had huge requirements of finance/working capital in the nature of Sundry Debtors and inventory, to meet its growing business needs. Hence the commercial justification of going in for Suppliers credit can not be questioned. Coming now to the interest rate charged, I see tremendous force in the arguments of the appellant. The rate of interest has to be viewed in the overall circumstances of the case. Different type of fund will have different cost. Even the weightage need to be given for availability of the same and security etc. Commercial matters are best left to judgment of businessmen to decide. No interference is ordinarily called for unless the Assessing Officer has valid reasons to support his contention that the interest rate is malafide. My predecessor had earlier similar addition of Rs.56,63,331/- in A.Y. 1997-98, though made under section 40A(2) of the Act, wherein he had examined the addition on account of interest otherwise. It was clearly held therein that the Assessing Officer was not justified in drawing adverse inference on this point Section 36(l)(iii) of the Act relates to deduction on account of "the amount of interest paid on capital borrowed for the purposes of the business or profession". In this case the Assessing Officer has not challenged the genuineness of business expenditure but made the above addition of differential interest on the ground of reasonableness or because the transaction is adversely interpreted by him. Similar Interest has been paid in the preceding two assessment years but no addition was made. As per facts the interest has been paid wholly and exclusively for the purposes of the business, hence, the reasonableness can not be doubted and the same can not be disallowed partly. The Assessing Officer can not act arbitrarily ignoring the valid submissions of the appellant. In the present case, having regard to the facts and circumstances of the case, I do not see any merit in the action of the AO in disallowing interest @ 5.5% of Rs.1,48,57,545/- and is decided to delete the addition."
31.1 Following his own order in the AY 2001-02, the ld. CIT(A) deleted the disallowance in the AYs 2002-03 & 2003-04 also
32. The Revenue is now in appeal before us against the aforesaid findings of the ld. CIT(A). Both the parties agreed that the issue is covered in favour of the assessee by the decision dated 28-03-2008 of the ITAT Ahmedabad Bench-D in the assessee's own case for AY 1997-98 in ITA No.492/Ahd/2001.
33 W e have heard both the parties and gone through the facts of the case. W e find that the Tribunal while adjudicating an issue relating to disallowance of excessive interest paid to SPIL, invoking the provisions of sec. 40A(2)(a) in the AY 1997-98 held in the following terms :
"6. The second ground relates the disallowance effected in the sum of Rs.56.63 of the assessee's claim for interest paid to M/s. Sun Pharmaceutical Industries Ltd. (SPIL in short) out of the total interest allowed to it at Rs.283.17 lacs. The basis for the disallowance was that the same stood allowed in excess, i.e., @ 24% per annum (p.a.), while the assessee had availed of borrowings, in the form of unsecured loans, ICDS etc. at rates ranging from 18% p.a. to 20% Page 13 of 26 p.a. The payee concern, being an entity covered u/s.40A(2)(b) of the Income-tax Act, 1961 ('the Act' hereinafter), the disallowance stood effected to the extent 4%, p.a., being deemed in excess, by applying s.40A(2)(a) of the Act In appeal, the same stood deleted by the Ld. CIT(A), accepting the assessee's contention that, firstly, the payee concerned stood not covered u/s. 40A(2)(b) of the Act. The assessee was facing dearth of finance and the rate of the market borrowings varied in the range of 24% p.a. to 30% p.a. As such, there is no cause for inferring the rate of 24% p.a. as excessive, so as to invoke (a) of the Act, particularly when there was no taxation motivation involved. Aggrieved, the Revenue is in appeal.
7 Before us, the Ld. D.R. relied on the order of the A.O. The AR on the other hand, relied in support of his case, on the decision in the case of Birla Gwalior Pvt. Ltd, vs. CIT, 44 ITR 747 (MP). Further, while arguing the case, he took us through the rectification application filed by the assessee (on 18-02- 2000), i.e., immediately after passing the assessment Order, seeking rectification of the finding by the AO i.e., of SPIL being an entity covered u/s.
40A(2)(b) of the Act and which was stated by him stands undisposed to date.
8. We have heard the parties, and perused the material on record.
8.1 We find that the assessee has firstly contested the applicability of s. 40A(2)(b) in its case, contending that the same is not an entity covered by the said section. It is not clear from the record whether the said contention stood raised before the AO as well, as there is no reference thereto in his Order, Even so, as such, the said contention raised before the first appellate authority for the first time, would require to be verified by the Assessing Authority, prior to its acceptance, and which we find as missing in the present case. We, therefore, proceed in the matter by assuming that the provision of s. 40A(2)(a) could be applied in the present case, as if the assessee's case merits acceptance on the basis of the undisputed facts as on record, the finding as regards the same may not be required and for which, therefore, the matter may need to be restored back to the AO's file. The AO has inferred the rate of 24% p.a. as excessive as the assessee had allowed interest at rates varying from 18% p.a. to 20% p.a. on its other borrowings, i.e., the deposits from public and loans from Financial Institutions. It has, however, contended that the market rate for capital during the relevant period stood at 24% p.a. to 30% p.a. Even though no basis or material for the same stands led by the assessee, its stands to reason and normal observation, that if the interest rates from organized sources is in the range of 20% p.a., that from the general market would only be higher, so that even discounting the assessee's claim/assertion, the rate of 24% p.a. is not beyond conception, and which is the rate at which the impugned interest is allowed by the assessee. Also, the onus for the application of s. 40A(2)(a) is on the Revenue, which we find as not discharged, apart from the fact that CBDT itself has issued a Circular to the effect that the provision being an unduly harsh one is to be applied only selectively and where the tax motivation stands established.
8.2 In view of the foregoing we do not find much merit in the Revenue's case, so that Ld. CIT(A) has, in our view, rightly deleted the impugned disallowance and we confirmed."
Page 14 of 2633.1 In the instant appeals, the provisions of sec. 40A(2)(a) of the Act have not been specifically invoked. As pointed out by the ld. CIT(A), the AO did not dispute the genuineness of business expenditure but made the above addition of differential interest on the ground of reasonableness. Similar payment of interest has been allowed by the AO himself in the preceding two assessment years. The ld. CIT(A) also concluded that with rapid growth in the turnover of the company and the assessee having already borrowed huge amount of funds from the bank, chose to pay interest to its creditors. Since the interest has been paid wholly and exclusively for the purposes of the business while both the assessee and SPIL were liable to tax at the same rates, therefore the arrangement could not be said to for reducing the tax liability. Accordingly, the ld. CIT(A) concluded that the reasonableness of the expenditure could not be doubted. As pointed out by the Hon'ble Delhi High Court in CIT v. Dalmia Cement (B.) Ltd. [2002] 254 ITR 377 , once it is established that there was nexus between the expenditure and the purpose of the business , the Revenue cannot justifiably claim to put itself in the arm-chair of the businessman or in the position of the board of directors and assume the role to decide how much is reasonable expenditure having regard to the circumstances of the case. No businessman can be compelled to maximize his profit. The Income-tax authorities must put themselves in the shoes of the assessee and see how a prudent businessman would act. The authorities must not look at the matter from their own view point but that of a prudent businessman. In the light of view taken in the said decision, we are of the opinion that once it is found that the expenditure had been, as a matter of fact, incurred by the assessee, it is not for the Department to consider whether commercial expediency justified the expenditure. Reasonableness of the expenditure can be gone into only for the purpose of determining whether in fact, the amount was spent. There is no material to show that any part of the amount shown to have been debited under the arrangement subsequently came back. In view of the foregoing ,especially when the ld. DR appearing before us did not place any material controverting the findings of the ld. CIT(A) in these three assessment years so as to enable us to take a different view in the matter, we are not inclined to interfere with the findings of the ld. CIT(A).Therefore, ground no.3 in the appeals for the AY 2001-02 & AY 2002-03 and ground no. 2 in the appeal for the AY 2003-04 are also dismissed."
11. Facts being identical, respectfully following the precedent, we dismiss this ground of appeal of the Revenue.
12. Ground No.3 reads as under:-
3(a) On the facts and in the circumstances of the case and in law, the Learned Commissioner of Income Tax (Appeals) erred in allowing short term loss of `.1,92,58,879/-, without appreciating the colourable nature of transaction of purchase and sale of units, giving authority to the Assessing Officer to lift the corporate veil and go by the substance of the transaction on the basis of surrounding circumstances, economic realities and facts of life, as Page 15 of 26 settled in the case of McDowell & Co. vs. CTO 154 ITR 148, 171 (SC), Juggilal Kamlapat vs. CIT 73 ITR 702(SC) vs. CIT (SC), CIT vs.Durga Prasad More 82 ITR 56\40 (SC) and Sumati Dayal vs. CIT 214 IT 801 (SC).
(b) The Learned Commissioner of Income Tax (Appeals) failed to adjudicate the finding of the Assessing Officer regarding clarificatory and hence retrospective nature of the amendment made in section 94(7) by the Finance (No.2) Act,2004 in the light of the case laws relied upon by the Assessing Officer."
13. The Learned Commissioner of Income Tax (Appeals) has decided the issue by observing as under:-
"11. The next ground of appeal is regarding the addition of `.1,92,58,879/- on account of dividend stripping by applying provisions of section 94(7) of the Income Tax Act. The facts in this regard are that the Assessing Officer observed that the appellant had claimed short term capital loss of `.2,13,48,253/- in respect of Birla Gilt Plus Liquid Plan, mutual fund from where it also received dividends of `.1,92,58,879/-. In response to the show cause as to why provisions of section 94(7) be not applied, the appellant clarified that the units have not been sold within a period of 3 month after the record date. The Assessing Officer further observed that the appellant had purchased units on 7-8-2003 i.e. just one day before the record date of dividend and the same were sold on 10-11-2003. From this, he observed that units were acquired within a period of 3 months before the record date. He also observed that the objective behind these transactions was to use this colorable device in order to reduce its tax liability with the motive of wiping out the capital gain. The Assessing Officer further stated that the provisions of section 94(7)(b) had been amended w.e.f. 1-4-2005 which was only clarificatory nature and, therefore, the same applied in substance to Assessment Year 2004-05 also. It has been stated that through this amendment the time limit for sale of units has been extended from 3 months to 9 months after the record date. Under the circumstances, the dividend of `.1,92,58,879/- was ignored against the short term capital loss of `.2,13,48,253/- and only the balance amount of loss was considered for computing the total income.
12. Before me, the appellant has submitted that the action of the Assessing Officer is bad in law for the reason that the units were sold after retaining them for a period of 3 months and 3 days. In this way, on the basis of facts alone, the appellant does not come in the purview of section 94(7). The appellant has also challenged the view of the Assessing Officer that the amendment to the section 94(7) brought w.e.f. 1-4-2005 was retrospective being clarificatory in nature. It has been stated that there is nothing in the language used in the amendment or in the Explanatory Notes to the Finance Act, 2004 which shows it to be clarificatory in nature. It has been argued that it is a well settled legal position that an amendment can be considered declaratory and clarificatory only if the statutes itself expressly and unequivocally states Page 16 of 26 that it is a declaratory and/or clarificatory provision. The appellant has relied uponthe decision in the case of Wallfort Shares and Stock Brokers Ltd. vs. ITO & Another,96 ITD 1, Mumbai Special Bench, Smt. Bhanuben Chimanlal Malvia v. ITO 100 TTJ-337, Rajkot ITAT. The appellant ahs also argued that the Assessing Officer has held the transactions of purchase and sale of units as a colorable device without substantiating the same and without bringing anything on record and, also, without appreciating that the transactions had been carried out with a recognized mutual fund approved by SEBI.
13. I have considered the rival submissions and perused the case law. It is observed that section 94(7) applies to any person that buys or acquires any securities or unit within a period of 3 months prior to the record date; if such person sells or transfers such securities or units within a period of 3 months after such date. It is further observed in this behalf that the units were purchased on 7-8-2003 and sold on 10-11- 2003. These dates find mentioned on para-2 of page-11 of the assessment order and the Assessing Officer has no objection to the correctness of these dates. That being so it is clear that provisions of section 94(7) do not apply to these transactions. As regards the amendment w.e.f. 1-4-2005 by which the period of sale or transfer of the unit has been extended from 3 months to 9 months, it is observed that the amendment is clearly prospective and in no way can be said to be clarificatory in nature so that it can apply to Assessment Year 2004-05. The language used in the amended section 94(7) is plain and unambiguous. Every amendment is prima-facie prospective unless it is expressly or by necessary implication made to have retrospective operation. In this particular case it has been made expressly effective from 1-4-2005. Under the circumstances, the Assessing Officer is not correct in holding that it will be applicable to the matters relating to Assessment Year 2004-05. As regards the observation made by the Assessing Officer that the units have been transacted in a way that the appellant had indulged in this device of dividend stripping with a view to reducing the tax liability, it is observed that the Assessing Officer has simply accused the appellant without bringing any material on record to substantiate such accusation. It is pertinent to note that the concerned mutual fund is a SEBI approved and recognized one. It is not the Assessing Officer's case that SEBI is a party to such colorable device. Under the circumstances, it is held that the addition made by the Assessing Officer of `.1,92,58,879/- under section 94(7) is ill-founded and the same is deleted."
14. At the time of hearing both the parties have agreed that the issue is cover in favour of the assessee by the decision of Hon'ble Supreme Court in the case of Commissioner of Income-tax v. Walfort Share and Stock Brokers P. Ltd.(2010) 326 ITR 1(SC) where it was held as follows:-
"Section 14A of the Income-tax Act, 1961, clarifies that expenses incurred can be allowed only to the extent they are relatable to the earning of taxable income. In many cases the nature of expenses Page 17 of 26 incurred by the assessee may be relatable partly to exempt income and partly to taxable income. In the absence of section 14A, the expenditure incurred in respect of exempt income was being claimed against taxable income. The mandate of section 14A is clear : it desires to curb the practice of claiming deduction of expenses incurred in relation to exempt income against taxable income and at the same time avail of the tax incentive by way of exempt income without making any apportionment of expenses incurred in relation to exempt income. The basic reason for insertion of section 14A is that certain incomes are not includible while computing the total income because these are exempt under certain provisions of the Act.
The basic principle of taxation is to tax the net income, i.e., gross income minus expenditure. On the same analogy, exemption is also in respect of net income. The theory of apportionment of expenditure between taxable and non-taxable has, in principle, been now widened under section 14A.
A pay back is not an expenditure in the scheme of section 14A ; for attracting section 14A there has to be a proximate cause for disallowance, which is in relationship with the tax exempt income. Pay back or return of investment is not such proximate cause.
A mere receipt of dividend subsequent to the purchase of units, on the basis of a person holding units at the time of declaration of dividend on the record date cannot go to set off the cost of acquisition of the units. The assessee earned income mainly from share trading and brokerage. The CFT Mutual Fund came out with an advertisement stating that tax free dividend income of 40 per cent. could be earned if investments were made before the record date March 24, 2000. The assessee by virtue of its purchase on March 24, 2000, became entitled to dividend on the units at Rs. 4 per unit and earned a dividend of Rs. 1,82,12,862.80. As a result of the dividend pay out, the value of the unit, stood reduced from Rs. 17.23 to Rs. 13.23 per unit on March 27, 2000. On March 27, 2000, the assessee sold all the units at Rs.13.23 per unit and collected an amount of Rs. 5,90,55,207.75, as well as an incentive of Rs. 23,76,778 in respect of the transaction. In all the assessee received back Rs. 7,96,44,847 as against the initial payment of Rs.8,00,00,000. In its return the assessee claimed the dividend received of Rs. 1,82,12,862.80 as exempt from tax under section 10(33) of the Act, and also claimed a set-off of Rs. 2,09,44,793 as loss incurred on the sale of the units. The Department disallowed the set-off claimed. However, the Appellate Tribunal, on appeal, deleted the disallowance by holding that the assessee was entitled to set off the loss from the transactions in question against its other income chargeable to tax. This view was affirmed by the High Court. The Department appealed to the Supreme Court :
_Held,_ affirming the decision of the High Court, (i) that it was established that there was a sale, the assessee received a dividend, and that dividend was tax-free. The assessee had made use of the provisions of section 10(33) and such use could not be said to be "abuse of law".
Even assuming that the transaction was pre-planned, there was nothing Page 18 of 26 to impeach the genuineness of the transaction. In the case of assessments before April 1, 2002-i.e., before the insertion of section 94(7) losses pertaining to exempted income could not be disallowed. However, after April 1, 2002, such losses to the extent of the dividend received by the assessee could be ignored by the Assessing Officer in view of section 94(7). Applying section 94(7) to cases for assessment years falling after April 1, 2002, the loss to be ignored would be only to the extent of the dividend received and not the entire loss. In other words, losses over and above the amount of received would still be allowed from which it followed that Parliament had not treated the dividend stripping transaction as sham or bogus. After April 1, 2002, losses over and above the dividend received would not be ignored under section 94(7).
(ii) That sections 14A and 94(7) operated in different fields. Section 14A dealt with disallowance of expenditure incurred in earning tax-free income against the profits ; on the other hand, section 94(7) dealt with dis-allowance of the loss on the acquisition of an asset.
(iii) That a mere receipt of dividend subsequent to purchase of units, on the basis of a person holding units at the time of declaration of dividend on the record date, could not offset the cost of acquisition of the units. Decision of the Bombay High Court in CIT v. Walfort Share and Stock Brokers P. Ltd. [2009] 310 ITR 421 affirmed.
15. Respectfully following the above quoted decision of the Hon'ble Supreme Court we confirm the order of the Learned Commissioner of Income Tax (Appeals) and dismiss this ground of appeal of the Revenue.
16. Ground No.4 reads as under:-
"On the facts and in the circumstances of the case and in law, the Learned Commissioner of Income Tax (Appeals) erred in deleting the disallowance under section. 14A of the expenses of `.20,73,231/- incurred for earning dividend income exempt under section. 10(34)/ 10(35), including the interest on the borrowing of `. 4 crores for investment in the mutual funds for the sole purpose of earning dividend income which was not allowable in the computation of short term capital gains on sale of this investment."
17. The Learned Commissioner of Income Tax (Appeals) has decided the issue by observing as under:-
"14. As regards Ground No.4,the Assessing Officer observed that the appellant had received a dividend of `.1,92,58,879/- from the investments made during the F.Y. under consideration and dividend of `.1,01,50,123/- had been received on investments made during the earlier years. Since the dividend income was exempt, the Assessing Page 19 of 26 Officer asked the appellant to show cause as to why expenses like interest on borrowed funds for making investment and other expenses relating to the earning this exempt income be not disallowed under section.14A of the Act. The appellant replied that the shares are held as stock-in-trade and are mainly held for the purpose of earning profits on their sale. It further explained that it had interest free funds comprising of share capital, reserves and surplus amounting to `.1,744.89 lakhs which were sufficient to cover the cost price of the shares which was `.916.99 lakhs. It argued that in the absence of direct nexus between funds deployed and shares purchased, the interest free funds should be considered first for the purpose of the shares acquired. As regards investment of `.6.5 crores in Birla Gilt Plus, it explained that `.4 crores had been received on 8-8-2003 from SPIL as inter corporate deposit, `/ 10 lakhs was received from Lakshadeep Investment and Finance Pvt. Ltd. as repayment against loan taken by them from the appellant company earlier and the balance amount was on account of the sale proceeds of the company. However, the Assessing Officer observed that the copy of bank account showed that `.4 crore of loan was taken from SPIL which was appropriate towards the investment of `.6.5 crores in Birla Gilt Plus Fund. The Assessing Officer computed interest @ 10% on `.4 crores of loan for a period of 3 months and 2 days which worked out to `.10,08,219/- and took it as interest cost for earning this exempt income of `.`1,92,58,879/-. He also estimated an amount of `.50,000/- on account of other expenses towards earning this exempt income. Regarding the balance dividend of `.1,01,50,123/- from investments made in earlier years, he estimated an amount @ 10% of such dividend towards interest and other miscellaneous expenses for earning such exempt income and this worked out to `.10,15,012/-. In this way, a total disallowance of `.20,73,231/- (`. 10,08,219 + 50,000 + 10,15,012) was made under section. 14A of the Act.
15. Before me, the appellant has submitted that the object and purpose of section14A is to disallow expenses which are incurred in relation to earning exempt income. Therefore, for any disallowance the expenditure should be shown to be prima-facie 'incurred' and it should be in relation to the exempt income. Therefore, no expenditure can be deemed to have been incurred. Also, it has been argued that a direct nexus has to be shown by the Assessing Officer between the incurring of such expenditure and the earning of exempt income. It has been argued that the Assessing Officer has failed to show any such nexus. The appellant has also argued that no disallowance under section 14A can be made in case of dividend income for which it has relied upon the decision of the Mumbai ITAT in the case of Mafatlal Holdings Ltd. vs. ACIT 85 TTJ
821. Further, it has been argued that where investments are held as stock-in-trade and there are sufficient interest free funds available, no such disallowance could be made. The appellant has also relied upon the decision of ITAT Delhi in the case of Maruti Udyog Ltd. vs. DICT 92 ITD 119 and ACIT vs. Eicher Ltd. 101 TTJ 369. Without prejudice to this claim, the appellant has argued that dividend income is passive and, therefore, if any amount of interest is considered attributable to the dividend income, then it can only be estimated in the ratio of dividend income to the total turnover of the company. It has also argued that once the Page 20 of 26 Assessing Officer has made a disallowance under section 94(7) in respect of the dividend income of `.1,92,58,879/-, a disallowance under section 14A again amounts to double addition which cannot be permitted under the law.
16. I have considered the rival submissions and perused the case law. It is observed that the appellant had laid great emphasis on the word 'incurred' used insection14A stating that the import is that the Assessing Officer must show as a fact that some interest had actually been incurred by the appellant to earn the exempted income. It has been also emphasized that no expenditure can, therefore, be estimated since it does not have to be a notional expenditure. It has been argued that the Assessing Officer has failed to bring any material on record to show the same in the case of the appellant. In this regard, the observations of the Hon'ble ITAT Delhi in the case of Eicher Ltd. (supra) have a direct bearing where the Hon'ble ITAT observed that "the word "incurred" used in section 14A clearly implies that it must be shown as a fact that some expenditure was in fact incurred by the assessee to produce exempted income. Under section 14A the Assessing Officer has no power to estimate the expenditure which the assessee would have, in the opinion of the Assessing Officer, incurred in relation to the exempted income. Further more it seems implicit in the expression "in relation to" used in the section the concept that the Assessing Officer should be in a position to pinpoint, with an acceptable degree of accuracy, the expenditure which was incurred by the assessee to produce non taxable income. The word "incurred" signifies that the expenditure must have been actually incurred, not notionally". The Hon'ble ITAT further held that "it followed from this that it was the duty of the Assessing Officer to pinpoint such expenditure on the basis of the material on record. The language of the section does not relieve the Assessing Officer of the burden of proving, on the basis of evidence or material on record that the assessee has in fact incurred expenditure which has relation to the exempted income".
Relying on the decision of the Hon'ble Delhi ITAT which squarely covers the facts of the appellant's case, it is held that the Assessing Officer has failed to clearly show that any particular expenditure was incurred by the appellant to earn the exempt dividend income. It is also observed that the expenditure of `.50,000/- in relation to the dividend of `.1,92,58,879/- was purely an estimate in respect of "other expenses related to earning of this exempt income". Similarly, the ad hock estimation of expenditure @ 10% on account of "interest and other miscellaneous expenses incurred in relation to the investments made from where this exempt income (of `.1,01,50,123/-) has been received", is also without any co-relation or nexus having been established between such expenditure and the dividend income. It is only notional. Under the circumstances, the disallowance made of `.20,73,231/- under section 14A of the Act is held to be ill-founded and is, therefore, cancelled."
18. The Ld Learned Departmental Representative submitted that Hon'ble the Bombay High Court in the case of Godrej and Boyce Mfg. Co. Ltd. v. Deputy Commissioner of Income-tax (2010) 328 ITR 81(Bom) held that :-
Page 21 of 26By the Finance Act of 2001, Parliament enacted section 14A of the Income-tax Act, 1961, with retrospective effect from April 1, 1962. Prior to the insertion of section 14A, the Revenue had sought to disallow the expenditure incurred in relation to exempt income. However, the Supreme Court in CIT v. Maharashtra Sugar Mills Ltd. [1971] 82 ITR 452and in Rajasthan State Warehousing Corporation v. CIT [2000] 242 ITR 450held that where there is one indivisible business giving rise to taxable income as well as exempt income, the entire expenditure incurred in relation to that business would have to be allowed even if a part of the income earned from the business is exempt from tax. Section 14A has been enacted to overcome these judicial pronouncements. The insertion of section 14A was curative and declaratory of the intent of Parliament. The basic object of section 14A is to disallow the direct and indirect expenditure incurred in relation to income which does not form part of the total income.
The following principles would emerge from section 14A and the decision in CIT v. Walfort Share and Stock Brokers P. Ltd. [2010] 326 ITR 1 (SC):
(a) the mandate of section 14A is to prevent claims for deduction of expenditure in relation to income which does not form part of the total income of the assessee ;
(b) section 14A(1) is enacted to ensure that only expenses incurred in respect of earning taxable income are allowed ;
(c) the principle of apportionment of expenses is widened by section 14A to include even the apportionment of expenditure between taxable and non-taxable income of an indivisible business ;
(d) the basic principle of taxation is to tax net income. This principle applies even for the purposes of section 14A and expenses towards non-
taxable income must be excluded ;
(e) once a proximate cause for disallowance is established-which is the relationship of the expenditure with income which does not form part of the total income-a disallowance has to be effected.
All expenditure incurred in relation to income which does not form part of the total income under the provisions of the Act has to be disallowed under section 14A. Income which does not form part of the total income is broadly adverted to as exempt income as an abbreviated appellation. The plain meaning of section 14A is that no deduction can be allowed in respect of expenditure incurred by an assessee in relation to income which does not form part of the total income under the Act.
Section 10 provides for incomes which shall not be included in computing the total income of a previous year of any person. Prior to the amendment brought about by the Finance Act of 2003 with effect from April 1, 2003, income by way of dividends referred to in section 115-O and income received in respect of the units of a mutual fund did not form part of the total income by virtue of the provisions of clause (33) of section 10. (Clause (33) of section 10 was omitted by the Finance Act of Page 22 of 26 2003. Clauses (34) and (35) which were inserted by the same Finance Act, now provide that income by way of dividends referred to in section 115-O and income received in respect of the units of a mutual fund specified in clause (23)(b) shall not be included in computing the total income of any person for the previous year). Plainly dividend income and income from mutual funds are incomes which by virtue of the provisions of section 10, do not form part of the total income under the Act. Expenditure incurred in relation to the earning of such income has to be disallowed under section 14A. The expression "income which does not form part of the total income" under the Act must receive its plain and grammatical construction. Such income is income which is not includible in computing the total income of the assessee under the provisions of the Act for a previous year. Income-tax is a tax on income in the hands of the assessee. Hence, when section 14A disallows expenditure incurred by the assessee in relation to income which does not form part of the total income, it would include categories of income such as dividend from shares and income from mutual funds which under section 10 are not to be included in the total income.
The charge under sub-section (1) of section 115-O is not on income by way of dividend in the hands of the shareholder. Viewed from the perspective of section 115-O as well as section 14A, it is evident that the tax on distributed profits is a charge on the company. The company is chargeable to tax on its profits as a distinct taxable entity. It does not do so on behalf of the shareholder. The company does not act as an agent of the shareholder in paying the tax under section 115-O. In the hands of the recipient shareholder dividend does not form part of the total income. On the contrary, section 10(33) clearly evinces Parliamentary intent that incomes from dividend (and from mutual funds) are not includible in the total income.
Sub-sections (2) and (3) of section 14A were inserted by an amendment brought about by the Finance Act of 2006 with effect from April 1, 2007. Under sub-section (2), the Assessing Officer is required to determine the amount of expenditure incurred by an assessee in relation to such income which does not form part of the total income under the Act in accordance with such method as may be prescribed. Sub-section (2) was inserted so as to provide a uniform method applicable where the Assessing Officer is not satisfied with the correctness of the claim of the assessee. Parliament has provided an adequate safeguard to the invocation of the power to determine the expenditure incurred in relation to the earning of non-taxable income by adoption of the prescribed method. The invocation of the power is made conditional on the objective satisfaction of the Assessing Officer in regard to the correctness of the claim of the assessee, having regard to the accounts of the assessee. These safeguards which are implicit in the requirements of fairness and fair procedure under article 14 must be observed by the Assessing Officer when he arrives at his satisfaction under sub-section (2) of section 14A. Sub-rule (1) of rule 8D of the Income-tax Rules, 1962, has also incorporated the essential requirements of sub-section (2) of section 14A before the Assessing Officer proceeds to apply the method prescribed under sub-rule (2). The provisions of sub-sections (2) and (3) Page 23 of 26 of section 14A of the Act, are constitutionally valid. The provisions of rule 8D of the Rules, are not ultra vires the provisions of section 14A, more particularly sub-section (2) and do not offend article 14 of the Constitution.
Different dates have been provided in the provisions of section 14A and rule 8D for their enforcement. Sub-section (1) of section 14A was inserted with retrospective effect from April 1, 1962, to overcome the decisions of the Supreme Court. At the same time, the theory of apportionment of expenditure between taxable and non-taxable income has, in principle, been now widened under section 14A. Reading section 14 in juxtaposition with sections 15 to 59, it has been observed that the words "expenditure incurred" in section 14A refer to expenditure on rent, tax, salary, interest, etc., in respect of which allowances are provided for. Thirdly, sub-sections (2) and (3) were introduced by a legislative amendment brought about by the Finance Act of 2006. Rule 8D has essentially put into place an artificial method of estimating the expenditure that can be regarded as being relatable to income that does not form part of the total income under the Act. Sub-section (4) of section 295 empowers the rule-making authority to give retrospective effect to subordinate legislation. However, unless expressly or by necessary implication, a contrary provision is made, no retrospective effect is to be given to any rule so as to prejudicially affect the interests of the assessee. The rules were notified to come into force on March 24, 2008. It is a trite principle of law that the law which would apply to an assessment year is the law prevailing on the first day of April. Consequently, rule 8D which has been notified on March 24, 2008, would apply with effect from assessment year 2008-09.
ITO v. Daga Capital Management P. Ltd. [2009] 312 ITR (AT) 1 (Mumbai) [SB] impliedly disapproved on this point.
For the assessment year 2002-03, the assessee claimed a dividend of Rs.34.34 crores as being exempt from the total taxable income. The assessee contended that it had not incurred any expenditure for earning the dividend income and that no disallowance was warranted. The Assessing Officer made a disallowance of Rs. 6.92 crores towards expenses attributed to the earning of the dividend income. The Commissioner (Appeals) following earlier decisions in the case of the assessee for assessment years 1998-99 and 1999-2000 held that no expenditure was attributable to the earning of the dividend received and consequently deleted the disallowance. The assessee claimed that a major portion of its dividend amounting to Rs. 19.86 crores was received from group companies and of the total shares, 95 per cent. consisted of bonus shares for which no cost had been incurred. The shares of GS were stated to have been acquired several years earlier, the assessee being a promoter of that company. During the year in question, the assessee claimed that it had not invested any amount in investments on which income was exempt under section 10(33) and it had disposed of some of its investments at a substantial profit. The Tribunal noted that the Assessing Officer had not examined the correctness of the claim of the assessee with reference to the accounts of the assessee, having regard Page 24 of 26 to the provisions of section 14A(2). The proceedings were remanded to the Assessing Officer for a fresh examination on the basis of the provisions of section 14A(2). On appeal to the High Court :
_Held,_ that the provisions of rule 8D of the Rules which have been notified with effect from March 24, 2008, would apply with effect from assessment year 2008-09. Even prior to assessment year 2008-09, when rule 8D was not applicable, the Assessing Officer had to enforce the provisions of sub-section (1) of section 14A. For that purpose, the Assessing Officer is duty bound to determine the expenditure which has been incurred in relation to income which does not form part of the total income under the Act. The Assessing Officer must adopt a reasonable basis or method consistent with all the relevant facts and circumstances after furnishing a reasonable opportunity to the assessee to place all germane material on the record. The proceedings for assessment year 2002-03 would stand remanded to the Assessing Officer. The Assessing Officer should determine as to whether the assessee had incurred any expenditure (direct or indirect) in relation to dividend income/income from mutual funds which does not form part of the total income as contemplated under section 14A. The Assessing Officer can adopt a reason-able basis for effecting the apportionment. While making that determination, the Assessing Officer should provide a reasonable opportunity to the assessee of producing its accounts and relevant or germane material having a bearing on the facts and circumstances of the case."
He submitted that the matter should be restored back to the file of Learned Assessing Officer fresh for adjudication following the above decision.
19. The Learned Authorised Representative of the assessee on the other hand submitted that as regards interest of `.10,08,219/- the matter needs to go back to the file of the Learned Assessing Officer for adjudication afresh in light of the decision of the Hon'ble Bombay High Court as the investments were made in the year under consideration as regards the rest of the amount of `.50,000/- and `.10,15,012/- the order of the Learned Commissioner of Income Tax (Appeals) needs to be confirmed because the investments were made in earlier years where no disallowance of interest was made.
20. We have heard the rival submissions and perused the orders of the lower authorities and the materials available on record. The Assessing Officer disallowed interest expenditure at the rate of 10% on a loan of `.4 crores for the period of 3 months and 2 days which amounted to `.10,08,219/- by invoking provisions of section14A as the funds were utilized in investments for earning exempt income of `.1,92,58,879/-. He further made a disallowance for Page 25 of 26 an estimated sum of `.50,000/- towards other expenses in earning exempt income. Similarly, he also disallowed 10% of dividend income of `.1,01,50,123/-
towards interest and miscellaneous expense for earning exempt income for investment made in earlier years and disallowed `.10,15,012/- under section 14A of the Act. In appeal, the Learned Commissioner of Income Tax (Appeals) deleted the disallowance on the ground that the disallowance was made by the Learned Assessing Officer without any correlation or nexus having been established between such expenditure and dividend income. According to the Learned Commissioner of Income Tax (Appeals) it was a notional disallowance which cannot be upheld. The Learned Departmental Representative has submitted that the issue should be restored to the file of the Learned Assessing Officer for fresh adjudication in the light of the decision of Hon'ble Bombay High Court in the case of Godrej and Boyce Mfg. Co. Ltd. v. Deputy Commissioner of Income-tax (2010) 328 ITR 81(Bom). The Learned Authorised Representative of the assessee has agreed to restoring back the issue regarding disallowance of interest of `.10,08,219/- and other expenses to the file of the Learned Assessing Officer as interest and other expenditures have been disallowed by the Learned Assessing Officer with regard to investments made in this year. Regarding the disallowance of interest and other expenses of `.10,15,012/- the Learned Authorised Representative of the assessee submitted that as no disallowance for interest and other expenses was made in earlier years therefore, the order of the Learned Commissioner of Income Tax (Appeals) should be confirmed in respect thereof. We find from the Assessment Order that the Learned Assessing Officer has observed as under :-
" Regarding balance amount of dividend of `.1,01,50,123/-, the assessee submitted that this dividend has been received out of investments made in earlier years. In the absence of any fund flow statement and other details therefore, an amount @10% of the amount received, i.e. `.1,01,50,123/- is disallowed towards interest and other miscellaneous expenses incurred in relation to the investments made from where this exempt income has been received. It is also mentioned that similar disallowance was made in earlier year also. Therefore, the disallowance is of `.10,15,012/-. Therefore, the total disallowance under section 14A comes to `.20,73,231/-."
Thus, it is observed that the disallowance of interest and other expenditure was also made in earlier years on earning of exempt dividend income. Therefore, the plea of the Learned Authorised Representative of the assessee that as no disallowance of interest and other expenses was made in earlier years Page 26 of 26 therefore, the deletion of such disallowance by the Learned Commissioner of Income Tax (Appeals) in the present year should be confirmed cannot be accepted. We therefore, set aside the orders of the lower authorities and remand the entire issue of disallowance of interest and other expenditure under section.14A back to the file of the Learned Assessing Officer for fresh adjudication in the light of the decision of Hon'ble Bombay High Court in the case of Godrej and Boyce Mfg. Co. Ltd. v. Deputy Commissioner of Income-tax (2010) 328 ITR 81(Bom) after allowing reasonable and proper opportunity to the assessee. Thus this ground of appeal of the Revenue is allowed for statistical purposes.
21. In the result, the appeal of the Revenue is partly allowed as above.
Order signed, dated and pronounced in the Court on 4th day of February, 2011.
Sd/- Sd/-
( MAHAVIR SINGH) (N.S. SAINI)
JUDICIAL MEMBER ACCOUNTANT MEMBER
Dated: Ahmedabad,4th day of February, 2011.
Compiled and compared by: Patki
Copy of the Order forwarded to :
1. The Appellant 2. The Respondent
3. The CIT Concerned 4. The ld. CIT(Appeals)-I, Baroda.
5. The DR, Ahmedabad Bench 6. The Guard File.
BY ORDER,
स᭜यािपत ᮧित //True Copy//
(Dy./Asstt.Registrar), ITAT, Ahmedabad
Date Initials
1. Draft dictated on 2-2-2011 -------------------
2. Draft Placed before authority 2-2-2011 -------------------
3. Draft proposed & placed 2-2-2011 ------------------- JM
Before the Second Member
4. Draft discussed/approved 3-2-2011 ------------------- JM/AM
By Second Member
5. Approved Draft comes to P.S 4-2-2011 --------------------
6. Kept for pronouncement on 4-2-2011 --------------------
7. File sent to the Bench Clerk 4-2-2011 --------------------
8. Date on which file goes to the ---------------- --------------------
A.R.
9. Date of dispatch of Order ---------------- ---------------------