2011 (2) TMI 1602 - AT - Income Tax

Summary

Issues involved: Disallowance of interest u/s 40A(2)(b) of the Income-tax Act, 1961.

Summary:
The appeal was filed by the assessee against the CIT(A)'s order for the assessment year 2006-07 regarding the disallowance of interest under Section 40A(2)(b) of the Income-tax Act, 1961. The AO observed that the assessee paid excess interest to specified persons under Section 40A(2)(b) compared to the interest rate on a bank loan. The CIT(A) partially allowed the claim, considering 15% interest as reasonable and restricting the disallowance to 3%. The ITAT found that the effective bank interest rate was 18.35%, including various additional costs, while the assessee paid interest at 18% to specified persons. The Tribunal noted that the assessee arranged additional funds from unsecured loans due to insufficient bank financing, and loans from friends and relatives were easily accessible compared to bank loans with stringent collateral requirements. Considering these factors, the ITAT allowed the appeal, finding no merit in restricting the interest rate to 15%.

This judgment emphasizes the need to consider all costs associated with obtaining bank finance, not just the basic interest rate, when determining the reasonableness of interest paid to specified persons under Section 40A(2)(b) of the Income-tax Act, 1961.