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2010 (10) TMI 386 - AT - Income TaxDisallowance - Rule 8D of the Rules 1962 - Once the expenditure held as having been incurred in relation to earning the tax free income within the meaning of section 14A it would corresponding ceased to be regarded as having incurred for earning taxable income and consequently would loose the deduction - The proximate cause is between the expenses and the taxable business income and not between the expenses and the tax free dividend income - The main contention of the assessee is that the said expenditure incurred for the purposes of business activity and therefore no part of the same can be attributed to the earning of the dividend income - Only that part of the expenditure which is incurred in relation to the income which form the part of the total income should be allowed - Accordingly, Rule 8D is not applicable for the assessment year under consideration - The appeal is partly allowed
Issues Involved:
1. Applicability of Section 14A of the Income Tax Act when dividend income is received on shares acquired in the course of business. 2. Applicability of Rule 8D of the Income Tax Rules in the case of the assessee. Issue-wise Detailed Analysis: 1. Applicability of Section 14A of the Income Tax Act: The assessee contended that no expenses were incurred to earn the exempt dividend income of Rs. 60,30,372/-. However, the Assessing Officer (AO) disagreed, disallowing 10% of the expenditure, amounting to Rs. 2,38,105/-, as directly related to earning the exempt income. The AO's decision was based on precedents such as ACIT V/s Citicorp Finance (India) Ltd and CIT V/s United General Trust. On appeal, the CIT(A) directed the AO to determine the amount of expenditure related to exempt income as per Rule 8D, following the Special Bench decision in ITO V/s Daga Capital Management Pvt. Ltd. The assessee argued that as a dealer in shares, the expenditure was for earning taxable income, and no part of it could be disallowed for earning tax-free dividend income. The assessee relied on several Supreme Court and High Court decisions, emphasizing that the expenditure incurred was for business purposes and not for earning dividend income. The Revenue argued that Section 14A applies irrespective of whether the exempt income was intended or incidental. The jurisdictional High Court in Godrej and Boyce Mfg Co. Ltd V/s Dy CIT supported this view, stating that the principle of apportionment of expenses is widened by Section 14A to include even indivisible business expenses. The Tribunal concluded that Section 14A applies if any expenditure is incurred in relation to exempt income, regardless of the intent. The AO must determine whether any expenditure was incurred for earning the exempt income and quantify the disallowance accordingly. The Tribunal decided this issue against the assessee. 2. Applicability of Rule 8D of the Income Tax Rules: The jurisdictional High Court in Godrej and Boyce Mfg Co. Ltd V/s Dy CIT held that Rule 8D is prospective and does not apply to the assessment year in question (2005-06). However, the AO must still compute the disallowance using a reasonable method if the assessee has incurred any expenditure in relation to earning exempt income. The Tribunal noted that the ITAT had previously found no nexus between borrowed funds and investments in dividend-yielding shares. However, the use of own funds for investments does not preclude the disallowance of expenses incurred in earning exempt income. The Tribunal set aside the CIT(A)'s order and remanded the matter to the AO to decide the issue in light of the jurisdictional High Court's decision, ensuring a reasonable method is applied to determine the disallowance. Conclusion: The Tribunal partly allowed the appeal, remanding the matter to the AO for a fresh determination of the disallowance related to exempt income, consistent with the jurisdictional High Court's guidelines. The Tribunal emphasized that Rule 8D is not applicable for the assessment year under consideration, but the AO must still determine any related expenditure using a reasonable method.
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