2017 (1) TMI 897 - AT - Income Tax

Disallowance of interest paid on money borrowed at higher rate of interest - Held that - From the record we found that assessee was having sufficient interest free funds in the nature of shares capital, reserve and surplus and advances for sale of flats. Substantial portion of the advances and deposits were given purely for business purpose for having property on development on which no interest can be charged. From the record, we also found that following advances and deposit were given purely for business of property development and thus no interest can be charged on the same. We also found that the Assessing Officer has wrongly in calculating average rate of interest on the balance amount outstanding as at 31.03.2010 instead of taking average balance during the year. This would have clearly shown that the average rate of interest on loan taken is same as that of average rate of interest on loan given. We attach herewith a statement showing average rate of interest on of loan taken and given. As per this statement the average rate of interest on loan taken is 11.28% and average rate of interest on loan given is 11.20%. Thus advances were given out of owned funds and for business purposes, therefore, no disallowance can be made in respect of advances given for the purpose of business. - Decided in favour of assessee

Summary

Issues:
Appeal by Revenue against assessment order under IT Act for AY 2010-11; Disallowance of interest paid on borrowed money at higher rate of interest.

Analysis:
The Revenue contested the disallowance of interest paid on borrowed money at a higher rate of interest. The AO observed that the assessee charged interest on loans advanced at a lower rate than the rate on borrowings, leading to a shortfall in interest earned. The AO calculated the equivalent additions of interest not received, resulting in an addition to the assessee's income. However, the CIT(A) deleted the addition, stating that no notional income could be taxed, especially when the company had sufficient interest-free funds for business purposes. The appellant argued that interest should not be charged on certain advances given for specific business purposes, citing relevant case laws. The AO's computation of average interest rate was also questioned, emphasizing the actual balances during the year. The CIT(A) found that the advances were business-related and given from owned funds, hence no disallowance was justified.

The Tribunal upheld the CIT(A)'s decision, noting that the advances were made for business purposes and funded from owned sources. The AO's penalty under section 271(1)(c) was also dismissed since the addition of notional interest was deleted. The cross objections by the assessee were deemed moot as the CIT(A)'s order was upheld. Consequently, both the Revenue's appeals and the assessee's cross objections were dismissed.

In conclusion, the judgment addressed the disallowance of interest paid on borrowed money at a higher rate, emphasizing the business nature of advances and the availability of sufficient owned funds. The legal principles regarding notional income and the computation of interest rates were crucial in determining the outcome of the case, leading to the dismissal of both the Revenue's appeals and the assessee's cross objections.