2008 (6) TMI 542 - AT - Income Tax

Disallowance on interest - mercantile system of accounting - Interest bearing funds were diverted to make interest free advances - Disallowance made on account of sales promotion expenses - mistake in the order of the CIT(A). Disallowance on interest - mercantile system of accounting - DR pleaded that from the order of the CIT(A) it has not been made clear whether any request was made by the assessee for admission of additional evidence and the ld CIT(A) also has not recorded the reasons for admitting such additional evidence as per the requirement of rule 46A(2) - HELD THAT - It is observed that as per one of the conditions laid down in rule 46A the assessee is entitled to submit additional evidence if proper opportunity is not given by the AO during the course of assessment proceedings. But in that case the ld CIT(A) is bound to record reasons in writing for admission of such additional evidence. Such exercise has not been done by the CIT(A). He has also not passed a speaking order with regard to the nature of the additional evidence submitted by the assessee and the contents thereof - Keeping in view these facts in mind and also the interest of justice it is considered just and proper to restore this matter to the file of the CIT(A) with the direction to follow the procedure laid down in rule 46A of the Income-tax Rules and then re-adjudicate the matter as per the provisions of law and to pass a speaking order thereon. For statistical purposes ground No. 1 for the AY 1998-99 is considered to be allowed. Interest bearing funds were diverted to make interest free advances - HELD THAT - The hon ble jurisdictional High Court in the case of CIT v. Orissa Cement Ltd. 2001 (5) TMI 31 - DELHI HIGH COURT has dismissed the reference filed by the Revenue on the ground that a finding of fact was recorded by the Tribunal to the effect that advance made by the assessee to the subsidiary company had come out of sale proceeds and not out of borrowed funds which will not give rise to a question of law. Thus principally it has been accepted by the hon ble jurisdictional High Court that in a case where the interest free funds are available with the assessee which are sufficient to cover interest free loans advanced by the assessee then disallowance u/s 36(1)(iii) is not justified. We find that it is not disputed that the overdraft funds were used for a very limited period as the interest for utilisation of overdraft funds has been computed by the CIT(A) as against huge disallowance. Such calculation has not been disputed by the Revenue. The Revenue has also not controverted the arguments of the assessee that it has been maintaining a mixed account where all other funds were being deposited which are in the shape of sale proceeds and amount received from sundry creditors etc. It has already been noticed that the assessee has ample interest free funds in the shape of reserve which are far exceeding the interest free advances made by the assessee. If such is a factual position then according to the decisions of the Delhi High Court in CIT v. Tin Box Co. 2002 (11) TMI 75 - DELHI HIGH COURT and Orissa Cement Ltd. s case 2001 (5) TMI 31 - DELHI HIGH COURT and the decision of the Calcutta High Court in Alkali and Chemical Corporation of India Ltd. v. CIT 1986 (6) TMI 35 - CALCUTTA HIGH COURT it has to be held that the disallowance has rightly been deleted by the CIT(A) and his order in this regard could not be interfered with. Thus there is no merit in the Departmental ground and the same is dismissed. Disallowance made on account of sales promotion expenses - mistake in the order of the CIT(A) - disallowance which was sought to be deleted by the CIT(A) was Rs. 50, 000 in place of Rs. 70, 000 deleted by him - HELD THAT - We restrict the disallowance to a sum of Rs. 50, 000 in the place of Rs. 30, 000 sustained by the CIT(A). Thus this ground is partly allowed - We are of the opinion that if the argument of the ld AR is accepted that the assessee had sufficient own funds to cover the interest free advances and the advances were made from mixed account therefore it should be presumed that the advances were made out of the assessee s own funds then no part of the disallowance can be upheld. Accordingly for the reasons given while deciding ground No. 2 of the Departmental appeal the disallowance sustained by the CIT(A) deserves to be deleted and is deleted. The cross-objections filed by the assessee are allowed. In the result the appeal of the Revenue for the AY 1996-97 is partly allowed and those for 1997-98 and 1998-99 are dismissed. The cross-objections filed by the assessee are allowed.

Summary

Issues Involved:
1. Deletion of addition on account of advance given to Vignette Investment P. Ltd.
2. Deletion of addition on account of advance to concerns under the same management.
3. Relief to the assessee on account of sales promotion expenses.
4. Deletion and restriction of addition on account of interest paid by the company on borrowed funds diverted for non-business purposes.
5. Deletion of addition made by the Assessing Officer on account of interest accrued.
6. Disallowance of interest on account of interest-free advances given by the assessee to its sister/allied concerns.
7. Disallowance of interest of Rs. 24,874 and Rs. 1,43,320 confirmed by the Commissioner of Income-tax (Appeals).

Issue-wise Detailed Analysis:

1. Deletion of Addition on Account of Advance Given to Vignette Investment P. Ltd.:
The Revenue challenged the deletion of the addition amounting to Rs. 61,42,500 by the Commissioner of Income-tax (Appeals). The Tribunal did not provide a specific ruling on this issue in the summarized judgment, indicating that the decision on this matter may be inferred from the broader context of interest-free advances and the treatment of such advances in the light of available funds.

2. Deletion of Addition on Account of Advance to Concerns Under the Same Management:
The Revenue contested the deletion of Rs. 23,12,674. The Tribunal's analysis suggests that the Commissioner of Income-tax (Appeals) had considered the nature and purpose of these advances, aligning with the broader principle that if the advances are made out of non-interest bearing funds, the disallowance may not be justified.

3. Relief to the Assessee on Account of Sales Promotion Expenses:
The Assessing Officer had disallowed Rs. 1 lakh out of the total sales promotion expenses, but the Commissioner of Income-tax (Appeals) reduced this disallowance to Rs. 30,000. The Tribunal found a calculation error and adjusted the sustained disallowance to Rs. 50,000, acknowledging some unvouched expenses but reducing the arbitrary nature of the original disallowance.

4. Deletion and Restriction of Addition on Account of Interest Paid by the Company on Borrowed Funds Diverted for Non-Business Purposes:
For the assessment year 1997-98, the Commissioner of Income-tax (Appeals) had restricted the disallowance from Rs. 86,83,318 to Rs. 24,874. Similarly, for the assessment year 1998-99, the disallowance was restricted from Rs. 94,17,265 to Rs. 1,43,320. The Tribunal upheld these restrictions, emphasizing the need to establish a direct nexus between the borrowed funds and the interest-free advances. The Tribunal found that the assessee had sufficient non-interest bearing funds to cover the advances, thus justifying the reduced disallowance.

5. Deletion of Addition Made by the Assessing Officer on Account of Interest Accrued:
The issue involved the deletion of Rs. 12,50,000 added by the Assessing Officer as accrued interest. The Tribunal noted procedural lapses by the Commissioner of Income-tax (Appeals) in admitting additional evidence without following Rule 46A. Consequently, the matter was remanded back to the Commissioner of Income-tax (Appeals) for re-adjudication following the proper procedure.

6. Disallowance of Interest on Account of Interest-Free Advances Given by the Assessee to Its Sister/Allied Concerns:
The Tribunal considered the assessee's argument that the advances were made out of non-interest bearing funds. The Commissioner of Income-tax (Appeals) had accepted this argument partially, leading to a reduced disallowance. The Tribunal upheld this view, noting that the assessee had sufficient non-interest bearing funds and that the advances were not necessarily made out of borrowed funds. The Tribunal dismissed the Revenue's appeals on this ground for the assessment years 1997-98 and 1998-99.

7. Disallowance of Interest of Rs. 24,874 and Rs. 1,43,320 Confirmed by the Commissioner of Income-tax (Appeals):
The assessee's cross-objections contested the sustained disallowances of Rs. 24,874 and Rs. 1,43,320. The Tribunal, agreeing with the assessee's argument of sufficient non-interest bearing funds and the mixed nature of the overdraft account, deleted these disallowances, allowing the cross-objections.

Conclusion:
The Tribunal's judgment primarily revolves around the principle that if an assessee has sufficient non-interest bearing funds, disallowances on account of interest-free advances should not be made. The judgment emphasizes the need for proper procedural adherence, particularly in admitting additional evidence. The Tribunal upheld the Commissioner of Income-tax (Appeals)'s decisions where they aligned with these principles and corrected procedural errors where necessary.