2019 (7) TMI 1206 - AT - Income Tax

Tribunal limits disallowance under section 14A to exempt income, requires nexus between expenses and income

The Tribunal partly allowed the assessee's appeal and dismissed the Revenue's appeal in a case concerning the disallowance of expenses under section 14A ... Disallowance of expenses u/s 14A r.w. rule 8D - HELD THAT:- Assessee had own surplus funds which were more than investments in dividend yielding shares. The law by now is well-settled that if available interest-free funds are much more than investments in dividend yielding shares, then there can be no disallowance under rule 8D(2)(ii) of the Act. In the case of CIT Vs. HDFC Bank Ltd. [2014 (8) TMI 119 - BOMBAY HIGH COURT] it was held where assessee's own funds and other non interest bearing funds were more than investment in tax free securities, no disallowance of part of interest payments under section 14A of the Act can be made. In light of the above factual and legal position, we are of the view that disallowance of interest under rule 8D(2)(ii) cannot be sustained and the same is directed to be deleted. Disallowance under rule 8D(2)(iii) - We have considered the expenditure debited in the profit & loss account and we find that only bank charges of ₹ 35,676/-, remuneration to auditors of ₹ 8500/-, salary and wages of ₹ 2,46,000, travelling and conveyance of ₹ 60,000/-, vehicle maintenance of ₹ 1,81,816- are expenses which are general in nature and all other expenses are attributable to the activities other than activity of investment in shares which are likely to yield exempt income. Therefore, only the aforesaid expenses can be considered for disallowance under rule 8D(2)(iii). We may also mention here that the mandate of section 14A of the Act is that the expenditure incurred in relation to income which does not, form part of total income has to be determined having regard to the account of the assessee. Therefore, nexus between expenses sought to be disallowed and earning of dividend income has to be seen before applying the provisions of rule 8D of the IT Rules. In that view of the matter, we direct that disallowance of expenses should be restricted to the items as set out above. There is no merit in the appeal because the law, by now is well settled that disallowance u/s 14A of the Act cannot exceed exempt income earned by the assessee Issues:Disallowance of expenses under section 14A of the Income-tax Act, 1961 read with rule 8D of the Income Tax Rules for assessment year 2009-10.Detailed Analysis:The appeal before the Appellate Tribunal ITAT Bangalore involved two appeals, one by the assessee and the other by the Revenue, both challenging the order of the CIT(A)-5, Bengaluru, regarding the disallowance of expenses incurred in earning income not forming part of the total income under Chapter III of the Income-tax Act, 1961. The common issue in both appeals was the disallowance made by the Assessing Officer (AO) under section 14A of the Act read with rule 8D of the Rules.The assessee, a company engaged in manufacturing and trading electronic goods, had claimed exemption for dividend income from shares and mutual funds under section 10(34) of the Act. The AO disallowed expenses amounting to Rs. 1,65,08,941/- incurred for earning exempt income, leading to a disallowance of Rs. 32,31,779/-. The AO further enhanced the disallowance to Rs. 1,69,71,613/- in subsequent proceedings.The CIT(A) confirmed the AO's order but directed the AO to restrict the addition under section 14A to the extent of the exempt income earned by the assessee. The assessee, aggrieved by this decision, appealed before the Tribunal. The Revenue, dissatisfied with the CIT(A)'s decision not to sustain the addition made by the AO, also appealed before the Tribunal.Regarding the disallowance under rule 8D(2)(ii), the assessee argued that it had sufficient interest-free funds exceeding investments in dividend-yielding shares, citing the balance-sheet details. The Tribunal, relying on legal precedents, held that no disallowance could be made if interest-free funds exceeded investments in tax-free securities, directing the deletion of the disallowance of interest under rule 8D(2)(ii).For the disallowance under rule 8D(2)(iii), the Tribunal examined the total expenditure debited in the profit & loss account and allowed only specific expenses related to general activities to be considered for disallowance under the rule. The Tribunal emphasized the need for a nexus between the expenses and the earning of dividend income before applying the provisions of rule 8D.The Tribunal dismissed the Revenue's appeal, noting that the disallowance under section 14A cannot exceed the exempt income earned by the assessee. Consequently, the appeal by the assessee was partly allowed, and the appeal by the Revenue was dismissed.In conclusion, the Tribunal's judgment provided detailed analysis and legal reasoning for the disallowance of expenses under section 14A of the Income-tax Act, 1961, emphasizing the importance of a clear nexus between expenses and income earned to determine the extent of disallowance.