2016 (2) TMI 170 - AT - Income Tax

Disallowance u/s 14A - whether interest payable to partners on their capital u/s. 40 (b) is an expenditure of the firm instead of holding same as an allowance claimed by the assessee & therefore and does not fall within the ambit of section 14-A. ? - Held that - We hold that expenditure as envisaged by Section 14A of the Act, duly include interest paid to the partners by the assessee firm if the same is incurred in relation to the income which is not includible in the total income u/s Section 14A of the Act and in that circumstances this interest paid to partners are to be considered as allowable expenditure only against the exempt income u/s 14A of the Act provided other conditions are fulfilled. Thus, we hold that the interest on partner s capital to the tune of ₹ 12,66,679/- as computed by the AO u/s 14A of the Act read with Rule 8D of the Income Tax Rules, 1962 is an expenditure , which is allowable as an expenditure being incurred by the assessee firm in relation to an income which does not form part of the total income of the assessee firm under the Act , and shall be allowed as deduction from the dividend income from Mutual Funds earned by the assesse firm as envisaged u/s 14A of the Act and shall go to reduce the exempt income earned by the assessee firm from dividend income from Mutual Funds as computed by the AO after applying provisions of Section 14A of the Act read with Rule 8D of Income Tax Rules, 1962 or in other words we uphold the disallowance of interest on partners capital to the tune of ₹ 12,66,679/- u/s 14A of the Act read with Rule 8D(2)(ii) of Income Tax Rules,1962.. We further hold that these allowance / deduction of expenditure of ₹ 12,66,679/- against the exempt income u/s 14A of the Act or in other disallowance u/s 14A of the Act, will not entitle the partner to claim relief in their individual return of income which shall be chargeable to tax as per the existing and applicable provisions of Section 28(v) of the Act read with Section 2(24)(ve) of the Act after including the afore-said interest income in the hands of the partners. Further, the AO has computed disallowance of ₹ 20,357/- under Section 14A of the Act read with Rule 8D(2)(i) of Income Tax Rules, 1962 being direct expenses incurred by the assessee firm having being incurred on STT paid of ₹ 18,633/- and PMS charges of ₹ 1,724/- paid to portfolio managers which is admitted to be paid by the assessee firm in relation to the earning of the exempt income, which disallowance we uphold . The AO has computed deemed expenses @0.5% of average investment under Section 14A of the Act read with Rule 8D(2)(iii) of Income Tax Rules, 1962 as per method vide formula laid down under Rule 8D(2)(iii) of Income Tax Rules, 1962 to cover administrative and other indirect expenses, which disallowance also we uphold. It is noteworthy that Rule 8D of Income Tax Rules, 1962 is held to be applicable w.e.f. assessment year 2008-09 by Hon ble Bombay High Court in the case of Godrej and Boyce Manufacturing Limited (2010 (8) TMI 77 - BOMBAY HIGH COURT). - Decided against assessee TDS u/s 195 - disallowance u/s 40a(ia) - whether the assessee was using the services of overseas commission agent for procuring export orders and not for providing managerial/technical services attracting TDS? - Held that - Keeping in view the facts and circumstances of the instant appeal , the assessee firm is entitled for deduction of export commission paid to foreign agents for sourcing of export orders in favour of the assessee firm without deduction of tax at source u/s 195 of the Act, as these export commission payments to the foreign brokers in not a sum chargeable to tax in the hands of the foreign brokers as contemplated u/s 195 of the Act and is neither a fee for technical/managerial services as defined in explanation 2 to Section 9(1)(vii) of the Act to bring it to tax under fiction created by the deeming provisions of Section 9 of the Act - Decided against revenue

Summary

Issues Involved:
1. Disallowance under Section 14A of the Income Tax Act, 1961.
2. Disallowance under Section 40(a)(i) of the Income Tax Act, 1961 for non-deduction of tax at source on foreign commission payments.

Issue-wise Detailed Analysis:

1. Disallowance under Section 14A of the Income Tax Act, 1961:

The assessee firm, engaged in the business of manufacturing, trading, and exporting textile goods, received dividend income exempt from tax. The Assessing Officer (AO) observed that the firm had made investments in mutual funds and shares, the income from which was tax-exempt. However, the firm did not disallow any expenditure related to earning this exempt income in its computation of income. The AO, invoking Section 14A of the Act read with Rule 8D of the Income Tax Rules, 1962, disallowed Rs. 15,36,264/-.

The assessee firm contended that the only expenses debited against earning of exempt income were Rs. 18,633/- for Securities Transaction Tax (STT) and Rs. 1,724/- for Portfolio Management Services (PMS) charges, totaling Rs. 20,357/-. It argued that interest paid to partners on their capital under Section 40(b) of the Act should not be considered as an expenditure for the purpose of Section 14A, as clarified by the Supreme Court in CIT v. Walfort Share & Stock Brokers (P) Ltd (2010) 326 ITR 1 (SC). The firm claimed that interest paid to partners is a statutory allowance and not an expenditure incurred for earning exempt income.

The AO rejected these contentions, holding that the basic objective of Section 14A is to disallow direct and indirect expenditure incurred in relation to income that does not form part of total income. The AO computed the disallowance under Rule 8D, resulting in a total disallowance of Rs. 15,36,264/-.

The CIT(A) upheld the AO's decision, stating that there was no change in the position during the year compared to the preceding assessment year. The CIT(A) referred to the Mumbai Tribunal's decision in the assessee's own case for the assessment year 2009-10, which had partly allowed the assessee's appeal by deleting the disallowance to the extent of interest paid on partners' capital.

The Tribunal, after considering the rival submissions and relevant case laws, upheld the disallowance of Rs. 15,36,264/- under Section 14A read with Rule 8D. The Tribunal noted the Supreme Court's decision in Munjal Sales Corporation v. CIT (2008) 168 Taxman 43 (SC), which held that interest paid to partners is an expenditure under Section 36(1)(iii) and is subject to the limitations of Section 40(b). The Tribunal also referred to the Ahmedabad Tribunal's decision in Shankar Chemicals Works v. DCIT (2011) 12 taxmann.com 461 (Ahd.), which held that interest paid to partners is an expenditure and not a statutory allowance.

2. Disallowance under Section 40(a)(i) of the Income Tax Act, 1961 for non-deduction of tax at source on foreign commission payments:

The AO disallowed Rs. 34,18,126/- paid as foreign commission under Section 40(a)(i), holding that the payments were for managerial services and thus subject to tax deduction at source under Section 195. The AO relied on the Karnataka High Court's decision in CIT v. Samsung Electronics (2009) 320 ITR 209 (Kar.) and the Mumbai Tribunal's decision in ACIT v. Anchor Health and Beauty Care Pvt. Ltd.

The assessee firm argued that the payments were made to non-resident agents for procuring export orders and collecting payments, which did not involve managerial or technical services. The firm relied on CBDT Circular No. 786 dated 07/02/2000, which clarified that no tax is required to be deducted on such payments. The CIT(A) accepted the assessee's contentions, noting that the agents did not render managerial or technical services and that the payments were for procuring export orders.

The Tribunal upheld the CIT(A)'s decision, noting that the non-resident agents did not have any permanent establishment in India and that the payments were for services rendered outside India. The Tribunal referred to the Supreme Court's decision in GE India Technology Centre Private Limited v. CIT (2010) 7 taxmann.com 18 (SC) and the Delhi High Court's decision in CIT v. Eon Technology Pvt. Ltd. (343 ITR 266 (Del.)), which held that commission payments to non-resident agents for services rendered outside India are not subject to tax deduction at source.

Conclusion:

Both the assessee firm's and the Revenue's appeals were dismissed. The Tribunal upheld the disallowance under Section 14A read with Rule 8D and allowed the deduction of export commission paid to foreign agents without deduction of tax at source under Section 195.