Court rules in favor of assessee on interest deduction under Income-tax Act

The High Court of Madhya Pradesh ruled in favor of the assessee in a case involving the interpretation of deduction of interest under section 36(1)(iii) of the Income-tax Act, 1961. The Court held that the deduction of interest is contingent upon borrowing for business purposes and actual payment of interest, not on the purpose of the borrowed amount. As the Tribunal did not find any failure to meet these conditions, the disallowance based on the absence of interest charged on advances to sister concerns was deemed unjustified. The Court directed the parties to bear their own costs in the reference.

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Issues involved: Interpretation of deduction of interest u/s 36(1)(iii) of the Income-tax Act, 1961 based on purpose of borrowing and payment of interest.

Summary:
The High Court of Madhya Pradesh considered a reference u/s 256(1) of the Income-tax Act, 1961 regarding the disallowance of a part of interest by the IT Appellate Tribunal. The assessee, a company engaged in manufacturing, claimed deduction for interest paid on borrowings for its business. The IT Officer disallowed a portion of the interest, citing lack of interest charged on advances to sister concerns. The Appellate Tribunal upheld this decision, leading to the reference to the High Court.

The assessee argued that as per s. 36(1)(iii) of the Act, deduction of interest requires borrowing for business purposes and actual payment of interest, which were fulfilled in this case. The Tribunal's disallowance was solely based on the absence of interest charged on advances to sister concerns, not on the purpose of borrowing. The Department contended that disallowance was justified as part of the borrowed amount was not used for business.

The High Court emphasized that under s. 36(1)(iii), deduction of interest hinges on borrowing for business, payment of interest, and not on the purpose of the borrowed amount. Since the Tribunal did not find any failure to meet these conditions, disallowance based on lack of interest charged on advances was deemed unjustified. The Court ruled in favor of the assessee, stating that the disallowance was not valid. The parties were directed to bear their own costs in this reference.

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