2009 (9) TMI 678 - AT - Income Tax

Expenditure incurred in relation to income not includible in total income, Preliminary expenses, Cash credits

Summary

Issues Involved:

1. Addition of Rs. 22,50,000 on account of share capital contributed by alleged shareholders.
2. Disallowance of expenses under Section 14A of the Income-tax Act.
3. Disallowance of Rs. 17,308 relating to preliminary expenses written off under Section 35D of the Income-tax Act.

Issue-wise Detailed Analysis:

1. Addition of Rs. 22,50,000 on account of share capital contributed by alleged shareholders:

The assessee raised share application money of Rs. 27,40,600 from eight persons, but the confirmations provided were undated, and the Assessing Officer (AO) issued summons under Section 131 of the Income-tax Act to six shareholders. Summons to two shareholders were returned with remarks "incomplete address" and "no such person." The assessee failed to provide current addresses. Statements from two shareholders, Shri Mool Chand Nirmal and Shri Yogesh Saxena, revealed they had not invested in the assessee-company. Further bank enquiries indicated that the share application money was received from accounts belonging to a Mr. Aggarwal, not the alleged shareholders.

The AO issued a show-cause notice and rejected the assessee's contentions, citing the following:
- Failure to produce six shareholders for verification.
- Share application money received from fictitious accounts.
- Denial of investment by two shareholders, indicating forged signatures.
- Fabricated confirmations and affidavits.
- Non-attendance by principal officers of M/s. MLF Classic Finance Ltd. and M/s. Rapid Impex (P.) Ltd.
- Failure to establish the actual existence of shareholders.
- No request for cross-examination of alleged shareholders.
- Non-production of books of account.

The CIT (Appeals) upheld the AO's decision, noting that the appellant company, being a private limited company, should have known its shareholders. The denial by two shareholders and the fact that the money came from Mr. Aggarwal's accounts indicated that the names were included for name sake. The CIT (Appeals) concluded that the assessee failed to prove the identity of the shareholders and thus did not discharge the onus under Section 68 of the Act.

The Tribunal confirmed the CIT (Appeals)'s findings, emphasizing that the identity of the shareholders was not proved, and the money did not come from their accounts but from Mr. Aggarwal's accounts. The assessee's failure to request cross-examination during the assessment proceedings was noted, and the Tribunal rejected the request for setting aside the case for cross-examination.

2. Disallowance of expenses under Section 14A of the Income-tax Act:

The AO disallowed 30% of the total expenses, attributing them to earning exempt dividend income, resulting in a disallowance of Rs. 1,80,692. The CIT (Appeals) reduced this to 20%, recognizing that some expenses were incurred for investment activities.

The Tribunal referred to the Special Bench decision in ITO v. Daga Capital Management (P.) Ltd., which held that both direct and indirect expenditures related to exempt income should be disallowed under Section 14A. The Tribunal directed the AO to recompute the disallowance as per Rule 8D of the Income-tax Rules, 1962, providing the assessee an opportunity to be heard.

3. Disallowance of Rs. 17,308 relating to preliminary expenses written off under Section 35D of the Income-tax Act:

The AO disallowed the claim for amortization of preliminary expenses, citing that Section 35D does not cover expenses for private share subscription and referencing the Supreme Court decision in Brook Bond (India) Ltd. v. CIT. The CIT (Appeals) upheld the disallowance, agreeing that the expenses were capital in nature and not allowable under Section 35D.

The Tribunal confirmed the disallowance, stating that Section 35D applies to expenses incurred before the commencement of business or for the extension of an industrial undertaking or setting up a new unit. Since the assessee was incorporated in 1982 and the expenses were for raising capital by private placement, they did not qualify for amortization under Section 35D.

Conclusion:

The appeal was partly allowed for statistical purposes, with directions to the AO to recompute the disallowance under Section 14A as per Rule 8D. The additions on account of share capital and disallowance of preliminary expenses were upheld.