Interest-free funds and proof of services govern disallowance of interest and salary expenditure in related-party payments.

Interest disallowance was not justified where the assessee's interest-free funds exceeded the interest-free advance to a sister concern and no borrowing nexus was shown; the disallowance was deleted. Salary paid to relatives of directors was disallowed because the assessee produced no evidence that services had in fact been rendered, so the burden of proof was not discharged; the disallowance was upheld.

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Issues: (i) whether disallowance of interest expenditure was warranted on the footing that borrowed funds were diverted for interest-free advances to a sister concern; (ii) whether salary paid to relatives of directors was allowable in the absence of proof of services rendered.

Issue (i): whether disallowance of interest expenditure was warranted on the footing that borrowed funds were diverted for interest-free advances to a sister concern.

Analysis: The assessee's capital and interest-free sundry creditors exceeded the amount advanced without interest to the sister concern. On the facts found, the advance stood covered by available interest-free funds, and no nexus was established requiring disallowance of interest expenditure.

Conclusion: The disallowance of interest expenditure was deleted and the issue was decided in favour of the assessee.

Issue (ii): whether salary paid to relatives of directors was allowable in the absence of proof of services rendered.

Analysis: The assessee did not produce evidence to show that the recipients had rendered services justifying the salary payment. In the absence of supporting material, the claim failed to discharge the burden of proof.

Conclusion: The disallowance of salary expenditure was upheld and the issue was decided against the assessee.

Final Conclusion: The appeal succeeded only on the interest disallowance issue and failed on the salary disallowance issue, resulting in partial relief to the assessee.

Ratio Decidendi: Where interest-free funds are sufficient to cover an interest-free advance, disallowance of interest is not justified unless a borrowing nexus is shown; expenditure claimed as salary must be supported by proof of services rendered.

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