2014 (6) TMI 569 - AT - Income Tax

Tribunal rules advance as 'client's money' not income. Disallowed expenses under Income Tax Act upheld.

DCIT, Circle 37(1), New Delhi Versus Om Prakash Khaitan

The Tribunal upheld the deletion of the addition made on account of 'Sundry Creditors' under the cash system of accounting, ruling that the advance ... Addition on account of sundry creditors – Cash system of accounting – amounts shown as sundry creditors has been invested by the assessee in the Mutual Funds and properties - Held that:- As it has already been decided in assessee’s own case for the earlier assessment year, it has been held that, the assessee is following cash system of accounting - the assessee has to account for all the incomes received during the year irrespective of the fact whether they have accrued to the assessee or not - a receipt to be accounted as an income must bear the character of an income and then only it can be treated as such in the year of receipt under the cash system of accounting – Relying upon KCP Limited Versus Commissioner of Income-Tax [2000 (8) TMI 3 - SUPREME Court ] - if a receipt is a trading receipt, the fact that it is not so shown in the account books of assessee would not prevent the assessing authorities from treating it as a trading receipt - the advance received by the assessee does not bear the character of a professional fee - It is merely an advance out of which many expenses may have to be incurred before the matter gets finally concluded - The characterization of the receipt can take place only at the time of appropriation i.e., in case of fees only when the matter is over and the assessee decides upon the quantum of fees - it would be inappropriate to treat the entire advance as fees in the year of its receipt when it does not bear any particular characteristic – Decided against Revenue. Restriction of disallowance u/s 14A of the act – Nexus between expenses were incurred for earning the exempt income – Held that:- CIT(A) rightly restricted the disallowance from Rs. 8,92,738/- to Rs. 94,721, thereby granting a relief of Rs. 7,98,017/- to the assessee – Following Justice Sam P. Bharucha Versus Additional Commissioner of Income-tax-11(3), Mumbai [2012 (12) TMI 409 - ITAT MUMBAI] - when it is possible to determine the actual expenditure in relation to the exempt income, or when no expenditure had been incurred in relation to exempt income, the principle of apportionment embedded in Section 14A of the Act has no application, that to disallow the expenditure u/s 14A of the Act, there must be a live nexus between the expenditure incurred and the income not forming part of total income; that a notional expenditure cannot be apportioned for the purpose of earning exempt income unless there is an actual relation in earning income not forming part of total income - the AO had not given any finding that any of the expenditure incurred and claimed by the assessee was attributable to earning of the exempt income - in the absence of any such instance of expenditure, finding of the AO, or any material that the assessee had in fact incurred any such expenditure having relation to the earning of the exempt income, the provisions of Section 14A of the Act cannot be applied – thus, the order of the CIT(A) is upheld – Decided against Revenue. Issues Involved:1. Deletion of addition made on account of 'Sundry Creditors' under the cash system of accounting.2. Restriction of disallowance under Section 14A of the Income Tax Act.Issue-wise Detailed Analysis:1. Deletion of Addition Made on Account of 'Sundry Creditors':The Department's appeal contended that the CIT (A) erred in deleting the addition made by the AO on account of 'Sundry Creditors'. The AO had added Rs. 10,78,01,478/- to the assessee's income, representing balances outstanding as of 31.10.2011. The AO argued that since the assessee followed the cash system of accounting, the income should be taxed in the year it was received. The assessee, a proprietor of a firm of Solicitors and Advocates, had a practice of receiving advances from clients for meeting out-of-pocket expenses, which were kept in separate ledger accounts and carried forward as sundry creditors if the matter was pending.The Tribunal noted that the assessee had consistently followed the cash system of accounting, and similar additions for AY 2001-02 and 2003-04 were deleted by the Tribunal. The Tribunal held that even under the cash system of accounting, every receipt is not income; it must bear the character of income. The advance received by the assessee did not have the characteristic of professional fees and was considered 'client's money' held in a fiduciary capacity. Therefore, the Tribunal rejected the Department's grounds, finding no merit in them, and upheld the CIT (A)'s deletion of the addition.2. Restriction of Disallowance Under Section 14A:The AO had made an addition of Rs. 8,92,738/- under Section 14A of the Income Tax Act, which was restricted to Rs. 94,721/- by the CIT (A). The assessee argued that no direct or indirect expenses were incurred for earning exempt income, except for Rs. 94,721/- paid for portfolio management fees. The CIT (A) relied on the case of 'Justice Sam P. Bharucha vs. Addl. Commissioner of Income Tax, Mumbai', where it was held that Section 14A involves the notion of apportionment only when expenditure is incurred for composite activities generating both taxable and non-taxable income. If no expenditure is incurred for earning exempt income, Section 14A does not apply.The Tribunal found that the AO had not provided any evidence that the assessee incurred expenses for earning exempt income. The Tribunal upheld the CIT (A)'s decision, noting that the AO did not collect material or evidence to determine such expenditure. The Tribunal referenced the cases of 'Justice Sam P. Bharucha' and 'Deepak Mittal', which supported the assessee's claim that no expenditure was incurred for earning exempt income. Consequently, the Tribunal confirmed the CIT (A)'s restriction of the disallowance to Rs. 94,721/- and rejected the Department's ground.In conclusion, the Tribunal dismissed the Department's appeal, upholding the CIT (A)'s decisions on both issues.