2013 (10) TMI 1129 - AT - Income Tax

Appellate Tribunal overturns disallowance under Income-tax Act; stresses direct connection between borrowed funds and investments.

Ramesh R. Chheda Versus Asst. CIT Cir 13(3), Mumbai

The Appellate Tribunal ruled in favor of the appellant, setting aside the disallowance made under section 14A of the Income-tax Act. The Tribunal ... Disallowance u/s 14A of the Income Tax Act – Held that:- Assessee had made investment of Rs. 22. 58 lacs for purchasing shares of Barak Valley Cheents Ltd. and Reliance enterprises Ltd - On 1. 11. 2007 closing balance of the HDFC bank account was Rs. 12. 9 lacs - If the said amount is considered along with the balance available with the Corporation Bank it can be safely held that assessee had his own funds to make investment in the shares purchased - if borrowed funds have no proximate connection with the investment in shares proportionate disallowance should not have been made. Provisions of Rule 8D (2)(ii) of the Rules have to be invoked in certain eventualities only - AO/FAA has not mentioned such eventualities. If the assessee has not claimed any expenditure for earning exempt income, it cannot always be held that there were always a cost involved. Reliance has been placed upon the judgment in the case of Hero Cycles Ltd.[ 2009 (11) TMI 33 - PUNJAB AND HARYANA HIGH COURT], wherein Hon’ble Punjab & Haryana High Court has held that contention of the Revenue that directly or indirectly some expenditure is always incurred which must be disallowed under section 14A and the impact of expenditure so incurred cannot be allowed to be set off against the business income which may nullify the mandate of section 14A, cannot be accepted. Disallowance under section 14A requires finding of incurring of expenditure where it is found that for earning exempted income no expenditure has been incurred, disallowance under section 14A cannot stand – Decided in favor of Assessee. Issues involved:1. Disallowance under section 14A of the Income-tax Act.2. Interpretation of provisions of Rule 8D for calculating expenses attributable to exempt income.Issue 1: Disallowance under section 14A of the Income-tax Act:The appellant challenged the addition of Rs. 1,63,544 under section 14A of the Act, contending that the Commissioner of Income Tax (Appeals) erred in law and fact in confirming the said addition. The Assessing Officer determined the disallowance as there was no direct expenditure claimed for earning exempt income, but costs were involved in investing funds and earning income. The appellant argued that interest-free funds were utilized for investments, hence no disallowance should be made. The First Appeal Authority upheld the disallowance, considering the nature of transactions in the appellant's bank account and the lack of evidence regarding the source of funds for investments. The Appellate Tribunal noted that if borrowed funds were not directly connected to share investments, proportionate disallowance should not have been made. Citing relevant legal precedents, the Tribunal ruled in favor of the appellant, stating that without evidence of investments from borrowed funds, the addition should not have been sustained.Issue 2: Interpretation of provisions of Rule 8D for calculating expenses attributable to exempt income:The Assessing Officer applied Rule 8D to compute the proportionate expenditure for earning exempt income, resulting in the disallowance of Rs. 1,63,544. The First Appeal Authority upheld this disallowance, citing the appellant's failure to substantiate the source of funds for investments in shares. The Appellate Tribunal, however, noted that Rule 8D(2)(ii) should be invoked only in specific circumstances, which were not mentioned by the AO or FAA. Referring to a judgment by the Hon'ble Punjab & Haryana High Court, the Tribunal emphasized that disallowance under section 14A requires actual expenditure incurred for earning exempt income. As the appellant's investments did not show a direct link to borrowed funds, the Tribunal ruled in favor of the appellant, partly allowing the appeal.In conclusion, the Appellate Tribunal ruled in favor of the appellant, setting aside the disallowance made under section 14A of the Income-tax Act. The Tribunal emphasized the need for a direct connection between borrowed funds and investments for any disallowance to be justified, as per the provisions of Rule 8D. The judgment highlighted the importance of substantiating actual expenditure for earning exempt income before making any disallowances, in line with established legal principles.