2004 (8) TMI 342 - AT - Income Tax

Interest Deduction Denied: Tribunal Affirms Non-Taxability of Interest on Dividend-Related Borrowed Capital.

The Tribunal dismissed the appeal, affirming the disallowance of the interest expenditure of Rs. 5,69,739 as a deduction. It held that the interest paid ... Taxability of dividend income u/s 10(33) and its implications on shareholders - Borrowed money utilized for the purchase of shares held as investment - interest paid on borrowed monies is allowable as expenditure against the dividend income? - Applicability of section 14A for disallowance of expenditure related to exempt income - HELD THAT:- In the present case, we find that the borrowed money has been utilized in purchase of shares held as investment. As the monies borrowed has been utilized in purchase of shares held as investment, the interest paid on so borrowed monies is allowable against the income from dividend on such shares irrespective of whether or not there is any yield of dividend on the shares purchased and held as investment. In other words, the interest incurred is relatable to earning of dividend on the shares purchased and held as investment. The dividend income is now exempted from tax by virtue of section 10(33) of the Act and, therefore, as a consequence thereof, the interest paid on borrowed capital utilized in purchase of shares held as investment, being the expenditure incurred in relation to dividend income not forming part of assessee's total income, cannot be allowed as a deduction. There is no chargeable income against which it can be allowed as a deduction. It cannot also be allowed against any other taxable income inasmuch as the interest so paid is not relatable to the earning of taxable income. This is what is provided by the Legislature in the scheme of the Income-tax Act even without the existence of section 14A of the Act with retrospective effect from 1-4-1962. We agree with the submission of the assessee that generally the decision of a co-ordinate Bench should be followed. But that is not the universal rule and it is subject to certain exceptions. With regard to the circumstances and the situation under which a co-ordinate Bench may come to a different conclusion than that of another Bench, we may refer to a decision of ITAT Ahmedabad Bench 'A' in the case of Mira Industries v. Dy. CIT [2003 (4) TMI 220 - ITAT AHMEDABAD-A]. Thus, we are of the considered view that the tax payable by the company u/s 115-O on the amount of dividend declared, distributed or paid is not the tax paid for and on behalf of the shareholder on the dividend income received by the shareholder, and consequently the dividend income received by the shareholder has not suffered any tax in his hands because of tax paid by the company u/s 115-O on the amount of dividend declared, distributed or paid. We therefore hold that the dividend income received by the shareholder is in fact does not form part of assessee's total income and exempt from tax by virtue of the provisions contained in section 10(33) of the Act and as such expenditure incurred in relation thereto cannot be allowed as deduction from other taxable income. There is no other source of income in so far as these borrowing and shares are concerned. The possibility of earning the income by way of capital gain on sale of shares in future may not be of any help to the assessee, in advancing the contention that it was of indivisible source of income and therefore the expenditure could be allowable while computing the capital gain on sale of said shares. The expenditure of interest on borrowed capital upto the date of sale or upto the date of purchase of shares could at best be said to be capital expenditure and can be allowed as a deduction while computing the income from capital gains in the year of sale but once the shares have been acquired, the interest pertaining to the period after-acquisition would be revenue expenditure and allowable u/s 57 of the Act while computing the income of the assessee from dividend in view of the decision of the Supreme Court in the case of Rajendra Prasad Moody[1978 (10) TMI 133 - SUPREME COURT]. Thus, the expenditure would not be allowable at all to the assessee even while computing the income under the head 'capital gains' and on the theory of 'indivisibility of source of income' as contended by the learned counsel of the assessee. The appeal is dismissed, affirming that dividend income received by the shareholder does not form part of the assessee's total income and is exempt from tax u/s 10(33). Consequently, any related expenditure is not deductible. Issues Involved:1. Whether the interest paid by the assessee of Rs. 5,69,739 is an allowable deduction.2. Applicability of section 14A in relation to dividend income exempt u/s 10(33) and tax levied on the company u/s 115-O.3. The relevance of the assessee's arguments regarding the allowability of interest expenditure against other heads of income.4. The impact of section 14A's proviso on reassessment and enhancement of assessment.Issue 1: Allowability of Interest DeductionThe main issue was whether the interest paid by the assessee of Rs. 5,69,739 is an allowable deduction since the dividend income to which it pertained is not chargeable to tax in the hands of the shareholder due to section 10(33) and section 115-O of the Finance Act, 1997. The shares were acquired when dividend income was taxable.Issue 2: Applicability of Section 14AThe Assessing Officer disallowed the deduction citing section 14A r.w.s. 10(33) & 115-O, stating that no deduction shall be allowed for expenditure incurred in relation to income that does not form part of total income. The CIT(A) upheld this disallowance, noting the clear nexus between borrowed sums and non-income generating assets, and that the law applicable was the one during the assessment year when dividend income was non-taxable.Issue 3: Assessee's ArgumentsThe assessee argued that:- The interest expenditure was on investments made when dividends were taxable.- The dividend is still taxable, but the tax collection procedure has shifted to the company.- The expenditure should be allowable against income from the sale of shares or other heads.- The investment in shares was linked to earning remuneration, which is taxable.- The interest-bearing liabilities were less than the total liabilities.However, these arguments were rejected by the Assessing Officer and CIT(A), who emphasized that the law during the relevant assessment year, which exempted dividend income, was applicable.Issue 4: Proviso to Section 14AThe assessee contended that disallowance in scrutiny assessment u/s 143(3) amounts to enhancement prohibited by the proviso to section 14A, which prevents reassessment or enhancement for years before April 1, 2001. The Tribunal rejected this contention, clarifying that scrutiny assessment is not reassessment or enhancement.Tribunal's DecisionThe Tribunal upheld the disallowance, stating:- The interest paid on borrowed capital for acquiring shares was allowable only against dividend income when it was taxable.- With the dividend income now exempt u/s 10(33), the interest expenditure is not allowable as it relates to non-taxable income.- The tax paid by the company u/s 115-O does not make the dividend taxable in the hands of the shareholder.- The interest expenditure cannot be shifted to other heads of income or future capital gains.ConclusionThe appeal was dismissed, affirming that the interest expenditure of Rs. 5,69,739 was not allowable as a deduction due to the provisions of section 14A and the exemption of dividend income u/s 10(33).