2012 (10) TMI 809 - HC - Income Tax

Disallowance of loss under the head income from other sources - In-genuine transaction - ITAT rejected invitation on the ground that it was not an investigating agency & allowed the claim - Held that - Section 57 provides for deductions in computing the income under the residuary head i.e. income from other sources . Clause (iii) of the Section allows deduction of any expenditure (not being in the nature of capital expenditure) laid out or expended wholly or exclusively for the purpose of making or earning such income. Interest paid on borrowings made for making investments with the object of making or earning income falls for consideration under this clause. As rightly pointed out on behalf of the Revenue, the principle would apply to a genuine case of borrowing and lending and if there are materials to show that the transaction of borrowing and lending was sham or was got up with the purpose of avoiding or reducing the tax liability, nothing prevents the revenue authorities from ignoring the claim. The difficulty in the present case with the order of the Tribunal is that despite being told that there are several unusual features which throw considerable doubt on the assessee s claim for deduction of the interest, it did not consider it proper to examine the matter further, but chose to take umbrage on the principle that the Tribunal cannot be expected to act as an investigating agency. It is true that the Tribunal cannot by itself embark upon an investigation and try to raise a new issue or make out a new case for the revenue which has not occurred to the revenue authorities, however, in the present case the AO did indicate the broad contours of the intention of the assessee to reduce his tax liability by claiming interest under Section 57(iii) on borrowings allegedly made from companies belonging to the same group for the purpose of acquiring shares, again in companies of the same group, which were closely held and did not yield any dividend. It is therefore, not a case where the Tribunal, for the first time, was being invited to investigate into an aspect which was not raised by the income tax authorities. The Tribunal, with respect, was not justified in brushing aside the invitation on the ground that it was not an investigating agency and has to limit itself to the issues raised before it. The issue as raised before it was the motive of the assessee and the Tribunal, given the status as the ultimate fact finding authority under the Act, ought to have remanded the matter, so that the motives of the assessee in making huge claims for deduction of interest under Section 57(iii) are made known to those who matter, particularly the taxing authorities - thus set aside the orders of the CIT (Appeals) and the Tribunal on the point of Section 57(iii) and remand the cases to the AO for de novo proceedings - in favour of revenue.

Summary

Issues Involved:
1. Whether the Income Tax Appellate Tribunal was correct in law in allowing the Assessee's claim of loss of Rs. 4.32 crores.
2. Whether the loan transaction in respect of the purchase of unquoted shares by the Assessee was a genuine transaction.

Detailed Analysis:

1. Allowance of Assessee's Claim of Loss:

The primary issue was whether the Income Tax Appellate Tribunal (ITAT) was correct in allowing the assessee's claim of a loss of Rs. 4.32 crores. The assessee had declared this loss under the head "income from other sources," which represented the interest on loans borrowed for the purchase of shares in Sahara Group companies. The Assessing Officer (AO) disallowed this loss, viewing the transactions as a colorable device to reduce tax liability. The AO noted that the assessee borrowed funds at a higher interest rate and lent them at a lower rate, previously taxed under Section 2(24)(iv) of the Income Tax Act, 1961. The AO concluded that the transactions were a subterfuge to transfer funds within the group and claim heavy interest deductions to reduce tax liability.

The CIT (Appeals) reversed the AO's decision, allowing the deduction based on the Supreme Court's judgment in Commissioner of Income Tax v. Raghunandan Prasad Moody, which held that interest paid for earning income is deductible even if no income is actually earned. The ITAT upheld the CIT (Appeals) decision, emphasizing that the borrowed funds were treated as loans by both the assessee and the lender companies, and interest was taxed as income in the lender companies' hands.

2. Genuineness of Loan Transaction:

The Revenue contended that the loan transactions were sham and aimed at reducing tax liability. They argued that the assessee's meager income made it impossible to repay the huge borrowings, suggesting the transactions were not genuine. The ITAT dismissed this argument, stating that the AO had not doubted the nature of the borrowed funds as loans and noting that the borrowed funds were repaid in the assessment year 1999-2000.

The Revenue also pointed out a similar case involving Swapna Roy, where the Allahabad High Court had disapproved of such transactions as devices to reduce tax liability. The ITAT failed to address these concerns, leading the High Court to conclude that the ITAT did not properly investigate the motives behind the transactions.

High Court's Conclusion:

The High Court found that the ITAT erred in not investigating the unusual features of the case, such as the assessee's capacity to repay the loans and the lack of dividend from the acquired shares. The High Court emphasized that the Tribunal should have examined whether the transactions were genuine or aimed at tax avoidance. The High Court noted that the Allahabad High Court had disapproved similar transactions in the case of Swapna Roy, indicating a pattern of tax avoidance within the Sahara Group.

Judgment:

The High Court set aside the orders of the CIT (Appeals) and the ITAT, remanding the cases to the AO for de novo proceedings. The AO was directed to take a fresh decision after a thorough investigation, considering all relevant aspects and affording the assessee an opportunity to be heard. The appeals of the Revenue were allowed, with costs assessed at Rs. 25,000/- in each set.