Section 14A disallowance and industrial subsidy treatment favoured the assessee; exempt-income investments and purpose test controlled the outcome.

Disallowance under section 14A read with Rule 8D was restricted to investments that actually yielded exempt income, so non-income-yielding subsidiary investments were excluded and the incremental addition was deleted. The corresponding adjustment to book profit under section 115JB was also deleted because clause (f) of Explanation 1 operates independently of the section 14A computation. The subsidy received under the incentive scheme was treated as a capital receipt, as its purpose was to encourage industrial investment in the notified area and it was linked to capital outlay rather than operational expenses. The assessee succeeded on these substantive issues, and the additional ground was remanded for consequential consideration.

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Issues: (i) Whether the disallowance under section 14A of the Income-tax Act, 1961 read with Rule 8D of the Income-tax Rules, 1962 could be recomputed by including investments that did not yield exempt income, and whether the same could also be added back while computing book profit under section 115JB of the Income-tax Act, 1961; (ii) Whether the capital subsidy received under the incentive scheme was a capital receipt or a revenue receipt liable to tax.

Issue (i): Whether the disallowance under section 14A of the Income-tax Act, 1961 read with Rule 8D of the Income-tax Rules, 1962 could be recomputed by including investments that did not yield exempt income, and whether the same could also be added back while computing book profit under section 115JB of the Income-tax Act, 1961.

Analysis: The assessee had already made a suo motu disallowance on the basis of investments that actually yielded exempt income. The non-current investment in the subsidiary did not generate exempt income during the year, and the Revenue did not controvert that factual position. The computation under Rule 8D was therefore held to exclude such non-income-yielding investments. On the MAT aspect, the adjustment under clause (f) of Explanation 1 to section 115JB was held to be independent of the disallowance mechanism under section 14A read with Rule 8D.

Conclusion: The incremental disallowance under section 14A read with Rule 8D was deleted, and the corresponding addition to book profit under section 115JB was also deleted, in favour of the assessee.

Issue (ii): Whether the capital subsidy received under the incentive scheme was a capital receipt or a revenue receipt liable to tax.

Analysis: The subsidy was granted to promote industrial investment in the notified area and was quantified with reference to investment in plant and machinery. The governing test was the purpose of the subsidy, and the object was to encourage setting up or expansion of industrial units rather than to meet operational expenses. The subsidy was linked to capital investment and the assessee had reduced it from the actual cost of the assets for depreciation purposes, which supported its capital character.

Conclusion: The subsidy was held to be a capital receipt not exigible to tax, in favour of the assessee.

Final Conclusion: The assessee succeeded on the substantive issues concerning section 14A, Rule 8D, section 115JB, and the character of the subsidy, while the additional ground was sent back for consequential consideration.

Ratio Decidendi: For section 14A and Rule 8D disallowance, only investments yielding exempt income are to be considered on the facts found, and for subsidy taxation, the determining factor is the purpose for which the subsidy is granted.

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