2024 (2) TMI 148 - AT - Income Tax

ITAT Rules in Favor of Housing Society: Expenses Rightly Set Off, Net Interest Taxed at Normal Rate.

Kalhar Co-op. Housing Society Limited Versus The Income Tax Officer, Ward – 1, Meahsana.

The ITAT allowed the appeal of a Co-operative Housing Society against the CIT(A)'s order, which upheld the disallowance of expenses under Section 57(iii) ... Disallowance u/s 57 - assessee has not clarified/gave explanation regarding expenses claimed u/s 57 for earning interest income from Banks, interest on income tax refund, miscellaneous income etc. and its related expenses - as per AO held that the since the expenses are not wholly and exclusively incurred for the purpose of making or earning any income which is chargeable under the head income from other sources, therefore, the same was disallowed - HELD THAT:- It is pertinent to note that the expenses/expenditure by the assessee has a direct nexus with the amount/common fund collected by the members of the society and the same which was kept in the Bank as Fixed Deposit. From the perusal of records, it appears that the said deposits as well interest derived thereon is directly used for the maintenance and upkeepment of the society. Therefore, the assessee has rightly set off the same against the income of the assessee society. AO as well as the CIT(A) has not justified in disallowing the same. The decision of Hon’ble Supreme Court in case of Secunderabad Club [2023 (8) TMI 925 - SUPREME COURT] is applicable in the present case. Thus, the appeal of the assessee is allowed. 1. ISSUES PRESENTED AND CONSIDERED 1. Whether expenses aggregating to Rs. 55,34,578 claimed against income from other sources are deductible under Section 57 as 'wholly and exclusively' incurred for earning that income where (a) the expenses relate to maintenance of common amenities funded by maintenance contributions collected from members and (b) the contributions and resultant bank deposits (and interest thereon) are used for upkeep of the society. 2. Whether net interest income earned from investment of members' maintenance funds is taxable at the normal slab rates applicable to an individual society-member entity, or is liable to tax at the maximum marginal rate. 2. ISSUE-WISE DETAILED ANALYSIS Issue 1 - Deductibility of expenses under Section 57: legal framework Legal framework: Section 57 governs deduction of expenses from income under the head 'Income from other sources' and requires that deductions be for expenditure 'wholly and exclusively' incurred for making or earning such income. The essential inquiry is the nexus between the expense and the earning of the chargeable income. Precedent treatment: The judgment treats relevant authorities' prior decisions (including the Supreme Court's decision in Secunderabad Club) as instructive on treatment of interest and related expenses where funds collected for specific common purposes are invested temporarily; the approach followed is consistent with precedents recognizing that income from temporary investment of specific-purpose funds may be considered in context of the objects for which funds are held. Interpretation and reasoning: The Tribunal examined the factual matrix: the society collects maintenance contributions from members to meet upkeep of common amenities; these contributions are temporarily placed in bank fixed deposits yielding interest until disbursed for maintenance; the audited accounts show that deposits and interest are directly applied to common maintenance. Given this direct nexus between the deposited funds (and interest earned) and the expenditure for upkeep, the Tribunal found that the expenses claimed are not independent personal or unrelated expenditures but are costs incurred in relation to funds held and used to provide and maintain common amenities. The correct legal test-whether expenditure is wholly and exclusively for earning the income-was applied with emphasis on the purpose and use of the fund rather than a narrow technical separation between receipts and specific expenses. Ratio vs. Obiter: Ratio - expenses incurred from and matched against maintenance contributions (and income earned thereon) which are used for upkeep of the society are deductible under Section 57 to the extent they pertain to earning/management of that fund. Obiter - ancillary comments on factual reliance upon audited accounts and practice in prior assessment years. Conclusions: The Tribunal concluded that the Assessing Officer and the first appellate authority erred in disallowing the claimed expenses. The expenses had a direct nexus with maintenance contributions and the temporary investment of those funds; they therefore qualified as deductible under Section 57 and were rightly set off against income from other sources. Issue 2 - Rate of tax on net interest income (maximum marginal rate vs. normal slab rate) Legal framework: Taxation of income depends on the nature of the assessee and the character of income. The question is whether the net interest income arising from investment of members' maintenance funds is to be taxed at the normal progressive slab rates applicable to an individual/cooperative body or at the maximum marginal rate. Precedent treatment: The Tribunal expressly relied upon the Supreme Court decision in Secunderabad Club which held that net interest income earned from investment of funds with outside third parties was chargeable to tax at normal rates (i.e., not mandatorily at maximum marginal rate) where such income is attributable to funds held for the institution's objects and not to tax-avoidance devices. Interpretation and reasoning: Applying that precedent, the Tribunal found that the net interest income in issue arises from short-term investment of maintenance contributions and is used for the society's maintenance purposes; it is not income of a nature that would trigger charging at maximum marginal rate. The Tribunal therefore held that taxing at maximum marginal rate was improper and that the normal slab rates should apply. Ratio vs. Obiter: Ratio - net interest income from investment of members' maintenance funds, applied to the objects of the society, is taxable at the normal rate rather than at the maximum marginal rate. Obiter - references to past assessment practices and permissive treatment in earlier years. Conclusions: The Tribunal held that the Assessing Officer erred in charging tax at the maximum marginal rate; the correct approach is to tax the net interest income at normal slab rates consistent with the governing precedent. Cross-references and final disposition The Tribunal cross-referenced Issue 1 and Issue 2: because the expenses were properly deductible against the interest income (Issue 1), the taxable net interest would in any event be reduced, and the appropriate taxation should follow the normal slab rates (Issue 2). The Tribunal therefore allowed the appeal, set aside the disallowance under Section 57, and directed that tax be computed applying the normal rates to the net interest income.