2016 (2) TMI 787 - AT - Income Tax

Disallowance u/s 14A - Held that - To the facts of the present case the assessee has not set out whether the interest expenditure was attributable to the earning of exempt income, to be considered for disallowance under Rule 8D(2)(ii). Strategic investment has to be excluded for the purpose of arriving at disallowance under Rule 8D (iii).The assessee has also failed to prove that the investment made in the other companies are strategic in nature. TheLd.CIT(A) has recorded a finding that the assessee has not submitted any evidence to establish that borrowed funds are for specific purpose. Further administrative expenses that could be attributable to earning of exempt income cannot be excluded. However as held in the case of Sarabhai Holdings Pvt. Ltd. v. ACIT, (2014 (4) TMI 1081 - ITAT AHMEDABAD ), only average of value of investment from which exempt income has been earned is to be considered and not total investment at beginning of year and at end of year, in disallowing administrative expenses. We accordingly set aside this issue for computing the disallowance by giving proper opportunity to the assessee. - Decided in favour of assessee statistically

Summary

Issues:
- Disallowance under Section 14A of the Income Tax Act
- Claim of tax-free income and related expenses

Analysis:

Issue 1: Disallowance under Section 14A of the Income Tax Act
The appellant challenged the addition made by the Assessing Officer under Section 14A of the Income Tax Act, claiming it to be arbitrary and unjustified. The Assessing Officer computed the disallowance under Section 14A r.w.R 8D of the Act at Rs. 1,41,206 due to the absence of disallowance of expenditure against dividend income earned by the appellant. The CIT(A) upheld the addition, leading to the appeal before the ITAT. The appellant contended that no fresh investment was made during the relevant year, and the investments generating tax-free income were from previous years. The appellant argued that the investments were made from capital and free reserves, not interest-bearing funds. The ITAT analyzed the legal provisions under Section 14A and Rule 8D, emphasizing the need for a nexus between expenditure and income not forming part of the total income. The ITAT observed that the appellant did not provide evidence to establish the strategic nature of investments or the specific purpose of borrowed funds. The ITAT set aside the issue for recalculating the disallowance, stressing the burden of proof on the appellant to establish the connection between taxable income and administrative expenses.

Issue 2: Claim of Tax-Free Income and Related Expenses
The appellant earned a tax-free dividend income of Rs. 900 from Hindustan Petroleum Corporation Ltd., with no fresh investments made during the relevant year. The appellant argued against the disallowance under Section 14A, citing previous investments and the use of capital and free reserves. The ITAT noted that the appellant did not make a suo moto disallowance for expenses related to earning the tax-free dividend income. The ITAT highlighted the importance of excluding strategic investments and calculating disallowances under Rule 8D. The ITAT directed a reassessment of the disallowance, emphasizing the necessity for the appellant to prove the nexus between taxable income and administrative expenses. The ITAT allowed the appellant's ground on this issue, granting an opportunity for proper computation of the disallowance.

In conclusion, the ITAT ruled in favor of the appellant on the grounds related to the disallowance under Section 14A of the Income Tax Act, emphasizing the need for a clear nexus between income and expenses for tax-free earnings. The judgment provided detailed analysis of the legal provisions and the burden of proof on the appellant in establishing the connection between taxable income and disallowable expenses.