2015 (6) TMI 1045 - AT - Income Tax

Disallowance of interest u/s 40a(ia) - claim of the appellant that the interest has to be allowed U/s 36(1)(iii) - Held that - Section 36(1)(iii) and section 37(1) so far as the allowance of interest is concerned, run parallel to each other. But these two sections do differ and it can be discerned that under section 36(1)(iii) the borrowed amount may be utilized even for procuring a capital asset related to the business. However, on the other hand, under section 37(1) the debt incurred must not be utilized for procuring a capital asset. Hence considering the totality of the facts and circumstances of the case, even the alternative plea is acceptable that the interest in question is otherwise allowable under section 37(1) of the I.T. Act being wholly and exclusively for the purpose of business. Thus considering the totality of the facts and circumstances of the case, we are of the considered opinion that, there was no logical basis by the Assessing Officer to disallow the claim of interest under section 36(1)(iii) of the IT. Act. Accordingly this part of the action of the Assessing Officer is hereby reversed. The insertion of Second Proviso appears to be on the ground of equity and natural justice because the income-tax cannot be levied two times on the same income. Further, according to us, there should be one more reasons that the provisions of section 40(a)(ia) are otherwise harsh in nature because an expenditure which is otherwise allowable under section 37 or under General provisions of I.T. Act are forced to be disallowed by invoking this section simply because of the reason that the requirement of TDS was not followed. The consequence of the provisions of section 40(a)(ia) is that a genuine expenditure which is incurred wholly and exclusively for the purpose of business although allowable under the normal provisions of IT. Act should be curtailed simply because of the reason that the payee or the assessee who has incurred the expenditure has not deducted the tax. Therefore, to overcome this hardship, specially when the deductee has paid the tax on the said amount, the respected legislature, in our humble view, seems to be justified in inserting this new Proviso, Therefore, we are also of the opinion, as expressed by the respected coordinate Bench Agra, that the amendment has brought into the statute was mainly to mitigate the rigour of harsh provisions of disallowance of expenditure under section 40(a)(ia), therefore, intended to be applied retrospectively, specially when there is no indication in the language of the said Proviso about the prospective applicability. We, therefore, conclude that after laying down the applicability of Second Proviso to section 40(ia) with retrospective effect, we here by remit the issue back to the file of the Assessing Officer to decide according to law after having verified the payment of tax by the recipient of the interest income in his respective hands by filing the return as prescribed in the statute. The assessee is side by side directed to furnish the requisite details to the Assessing Officer and fully cooperate with the proceedings - the ground raised by the assessee being restored back for readjudication, hence may be treated as allowed for statistical purposes.

Issues Involved:
1. Disallowance of interest under section 40(a)(ia) of the Income Tax Act, 1961.
2. Applicability of section 36(1)(iii) for interest allowance.
3. Non-deduction of TDS on interest payments and its implications under section 40(a)(ia).
4. Retrospective applicability of the second proviso to section 40(a)(ia).

Issue-wise Detailed Analysis:

1. Disallowance of Interest under Section 40(a)(ia):
The primary issue revolves around the disallowance of Rs. 6,86,739/- as interest under section 40(a)(ia) of the Income Tax Act, 1961. The Assessing Officer (AO) disallowed this amount because the assessee failed to deduct TDS on the interest payments made to certain parties, which is mandatory under section 194A(1) of the Act. The AO argued that the non-deduction of TDS warranted the disallowance under section 40(a)(ia).

2. Applicability of Section 36(1)(iii) for Interest Allowance:
The assessee contended that the interest should be allowed under section 36(1)(iii) of the Income Tax Act, which permits the deduction of interest on borrowed capital used for business purposes. The AO, however, rejected this claim, stating that the assessee failed to prove the utilization of borrowed capital for business purposes. The AO's stance was that the personal and business accounts were interlinked, but this did not suffice to claim the deduction.

3. Non-deduction of TDS on Interest Payments:
The AO's second objection was the non-deduction of TDS on the interest payments, which led to the disallowance under section 40(a)(ia). The assessee argued that since the recipient of the interest had already paid tax on the interest income, the disallowance under section 40(a)(ia) should not apply. The first appellate authority upheld the AO's decision, citing that the provisions of section 40(a)(ia) are clear about disallowing expenses where TDS has not been deducted.

4. Retrospective Applicability of the Second Proviso to Section 40(a)(ia):
The assessee argued that the second proviso to section 40(a)(ia), which provides relief from disallowance if the recipient has paid tax on the income, should be applied retrospectively. The Revenue contended that this proviso is applicable only from 01-04-2013 and cannot be applied to earlier assessment years. The Tribunal, however, referred to the ITAT Agra Bench's decision in Rajeev Kumar Agrawal's case, which held that the second proviso is declaratory and curative in nature and should be applied retrospectively from 1st April 2005.

Tribunal's Findings:

Allowability of Interest under Section 36(1)(iii):
The Tribunal disagreed with the AO's action, noting that the personal and business accounts were interlinked, and the funds were used for business purposes. The Tribunal observed that the AO did not establish that the borrowed funds were used for personal purposes. The Tribunal also considered that the interest paid to R.N. Bhattad was disclosed in his personal return. Consequently, the Tribunal reversed the AO's decision, allowing the interest claim under section 36(1)(iii).

Applicability of Section 40(a)(ia):
The Tribunal addressed the issue of non-deduction of TDS and the applicability of the second proviso to section 40(a)(ia). It noted that the second proviso, introduced by the Finance Act, 2012, aims to prevent double taxation and should be applied retrospectively. The Tribunal emphasized that the proviso aligns with the Supreme Court's decision in Hindustan Coca Cola Beverage (P.) Ltd.'s case, which held that once the recipient has paid tax on the income, the payer should not be treated as an assessee in default. The Tribunal remitted the issue back to the AO to verify the payment of tax by the recipient and decide according to the law.

Conclusion:
The Tribunal concluded that the disallowance of interest under section 36(1)(iii) was not justified and reversed the AO's decision. Regarding the non-deduction of TDS, the Tribunal held that the second proviso to section 40(a)(ia) should be applied retrospectively and remitted the issue back to the AO for verification. The appeal was allowed for statistical purposes, directing the AO to re-adjudicate based on the Tribunal's findings.

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