2017 (3) TMI 1808 - AT - Income Tax

Disallowance of interest on advances given treating it to be non business expenditure - Sufficiency of own funds - AO found that the assessee has advanced interest bearing funds to some of persons from which either no interest is charged or the same is charged at lesser rate whereas the assessee has paid interest @ 12% on loan taken - HELD THAT - Interest-free advance were given out of interest-free funds available with the assessee during the year for which sufficient interest-free funds were available. Therefore, we are of the view that the Ld. A.O. has failed to establish that interest free advances to above stated four parties were out of interest bearing funds. We find that the AO has not been able to establish the nexus between interest bearing funds utilized for non business purpose In the present case, the sufficient interest free funds were available at the disposal of the assessee. Therefore, presumption would go in favour of the assessee that the interest free funds were given out of interest free funds available at the disposal of the assessee as per balance sheet of the assessee. We further rely on the decision in the case of CIT vs. Hero Cycles Ltd. 2009 (11) TMI 33 - PUNJAB AND HARYANA HIGH COURT wherein it was held that no disallowance out of interest payment is permissible if AO does not establish nexus between the expenditure incurred and income generated. - Decided in favour of assessee. Addition u/s 41(1) - cessation of liability - there is a one creditor M/s Mahima Porsepun in whose case an amount was outstanding for last three years - HELD THAT - there was no basis by treating the said amount as remission or cessation of a trading liability of the assessee when it was not unilateral written off by the assessee. We find that the AO has made this addition merely on the basis of expiry of limitation to file the suit by creditor, where he cannot who come up with a proceedings for enforcement of debt. However, we find that this amount was subsequently settled by the assessee in the succeeding years therefore, the assessee has not derived or obtained any benefit in respect of such trading liability. Therefore, the addition made on the basis of presumption cannot be sustained in the eyes of law. Provision of Section 41(1)(a) of the Act can only be invoked when the assessee has written off the liability in its books of accounts by unilateral act. Since, the assessee has not written off the aforesaid amount in its books of accounts and the payment has been settled in the subsequent year, therefore, the addition so made by the AO, is not sustainable in the law. Accordingly, the same is deleted. This grounds of appeal is therefore allowed. Addition u/s 14A r.w.r. 8D - assessee has invested the capital in the form of share capital for which he is earning his share income from the firm and has shown share of profit - HELD THAT - As relying on DAGA CAPITAL MANAGEMENT (P.) LTD. 2008 (10) TMI 383 - ITAT MUMBAI there is no dispute that there cannot be any doubt, that some expenditure incurred in making of earning of income for dividend in case of maximum accounting the expenditure is not identified as such it directly relates to earning of dividend but that cannot be granted to say that no expenditure is incurred for earning dividend income for that or no expenditure could be related to that income. Therefore, in the light of aforesaid decisions and the provision of Rule 8D(iii) we are of the view that the assessee must have incurred the some expenditure in relation to earn exempt income therefore, the disallowance made by the AO and as confirmed by the CIT(A) are upheld. Hence this ground of appeal is dismissed.

Issues Involved:
1. Disallowance of interest on advances given, treating it as non-business expenditure.
2. Addition under section 41(1) for cessation of liability.
3. Disallowance under section 14A for expenditure incurred in relation to exempt income.

Issue-wise Detailed Analysis:

1. Disallowance of Interest on Advances Given:
1.1 The assessee, engaged in trading of soya oil and other commodities, filed a return declaring total income of ?73,29,800/-. The AO disallowed ?22,58,779/- as interest on advances given to certain parties without charging interest or at a lower rate, while the assessee paid 12% interest on borrowed funds. The AO calculated the disallowance based on the interest differential and non-charged interest on advances to Manoj Traders, N.M. Exports, and others, totaling ?22,58,779/-.

1.2 The CIT(A) upheld the AO's decision, stating the assessee failed to provide sufficient evidence to counter the AO's findings and did not accept the assessee's claim of having sufficient interest-free funds.

1.3 On appeal to the Tribunal, the assessee argued that it had substantial interest-free funds amounting to ?16,88,97,140/-, which were more than sufficient to cover the interest-free advances of ?5,75,00,000/-. The assessee cited the balance sheet and relied on the judgment of CIT vs. Reliance Utilities & Power Ltd., where it was held that if both interest-free and interest-bearing funds are available, a presumption arises that investments are made from interest-free funds.

1.4 The Tribunal found that the AO failed to establish a nexus between interest-bearing funds and non-business purposes. The Tribunal applied the principles from Reliance Utilities & Power Ltd. and Hero Cycles Ltd., concluding that the interest-free advances were given from interest-free funds. Consequently, the disallowance of ?22,58,779/- was deleted, and this ground of appeal was allowed.

2. Addition under Section 41(1) for Cessation of Liability:
2.1 The AO added ?6,76,266/- under section 41(1), treating the outstanding amount to M/s Mahima Porsepun as cessation of liability since it was outstanding for over three years.

2.2 The CIT(A) upheld the addition, noting the prolonged outstanding period and the absence of transactions or confirmations from the creditor, suggesting the liability no longer existed.

2.3 On appeal, the assessee argued that section 41(1) applies only if the liability is written off in the books, which was not the case. The assessee cited several judgments, including CIT v. Southern Roadways Ltd. and CIT v. Sugauli Sugar Works (P) Ltd., asserting that the mere expiry of the limitation period does not extinguish the debt.

2.4 The Tribunal agreed with the assessee, noting that the liability was not written off and was settled in subsequent years. The Tribunal concluded that the AO's addition based on presumption was unsustainable. The addition under section 41(1) was deleted, and this ground of appeal was allowed.

3. Disallowance under Section 14A for Expenditure Incurred in Relation to Exempt Income:
3.1 The AO disallowed ?1,83,889/- under section 14A, applying Rule 8D(iii), despite the assessee's claim of not incurring any expenditure for earning exempt income. The AO noted the assessee's substantial share income from firms, which is exempt from tax.

3.2 The CIT(A) upheld the disallowance, stating that Rule 8D(iii) applies irrespective of whether the assessee earned exempt income or not.

3.3 On appeal, the assessee argued that no expenses were claimed for earning exempt income, and therefore, section 14A should not apply. The assessee cited decisions supporting the view that Rule 8D cannot be blindly applied.

3.4 The Tribunal found that the assessee had incurred substantial expenditure, including interest and bank charges, and it was improbable that no expenditure was incurred to earn exempt income. The Tribunal relied on decisions in Citycorp. Finance (India) Ltd. and Daga Capital Management (P) Ltd., concluding that some expenditure must have been incurred. The disallowance under section 14A was upheld, and this ground of appeal was dismissed.

Conclusion:
The appeal was partly allowed, with the disallowance of interest on advances and the addition under section 41(1) being deleted, while the disallowance under section 14A was upheld. The order was pronounced on 16.03.2017.

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