2017 (10) TMI 677 - AT - Income Tax

Interest expenditure proportionately addition u/s. 36(1)(iii)/37(1) - advances given to subsidiary companies - Held that - All advances given to subsidiary companies cannot be considered as diversion of interest bearing funds. We further observe that the assessee has sufficient interest free funds in the form of share capital to explain the advances given to its subsidiaries. Though assessee is having borrowings from banks and financial institutions, during the financial year its borrowings have substantially come down. Therefore it is clearly evident that the assessee has not diverted its interest bearing funds to its subsidiaries. We further observe that if there are funds available, both interest free funds and interest bearing funds, then the presumption would arise that its advances would be out of interest free advances generated or available with the assessee, if the interest free funds were sufficient to meet the advances given to the subsidiaries. In this case, on perusal of facts available on record, we find that the assessee has demonstrated with evidence that it has sufficient interest free funds to cover the advances given to its subsidiaries. Therefore, considering the facts and also relying upon the judgment of the Hon ble Bombay High Court in the case of Reliance Utilities & Power Ltd. (2009 (1) TMI 4 - BOMBAY HIGH COURT) we are of the view that the AO has erred in disallowing interest expenditure u/s. 36(1)(iii) / 37(1) of the Act towards advances given to assessee s subsidiaries companies. Therefore, we direct the AO to delete the additions made towards disallowance of interest expenditure u/s. 36(1)(iii) / 37(1) of the Act. Appeal filed by the assessee is allowed.

Summary

Issues:
1. Disallowance of interest expenditure u/s. 36(1)(iii) / 37(1) of the Income Tax Act.
2. Commercial expediency of interest-free advances to subsidiaries.

Analysis:
1. The appeal was against the CIT(Appeals) order for the assessment year 2013-14, where the AO had disallowed interest expenditure u/s. 36(1)(iii) / 37(1) of the Act. The CIT(Appeals) partly allowed the appeal, deleting the disallowance of expenditure u/s. 14A r.w. Rule 8D but confirming the disallowance of interest expenditure. The assessee challenged this decision before the ITAT Bangalore.

2. The assessee contended that loans to subsidiaries were made out of own funds and were commercially expedient. The AR argued that sufficient own funds in the form of share capital were available to explain the sources for advances to subsidiaries. Citing relevant case laws, the assessee claimed that the advances were normal business transactions and not a diversion of interest-bearing funds to subsidiaries without any interest.

3. The Revenue argued that the assessee failed to substantiate that advances to subsidiaries were from its own funds and not from interest-bearing funds. It was highlighted that the company had significant long-term and short-term borrowings, questioning the commercial expediency of interest-free advances to subsidiaries. The AO disallowed interest expenditure proportionately, alleging diversion of interest-bearing funds without charging any interest.

4. After considering the arguments, the ITAT observed that the assessee had sufficient interest-free funds in the form of share capital to cover the advances to subsidiaries. The reduction in borrowings during the financial year indicated the availability of funds to meet repayment obligations and advances to subsidiaries. Relying on the judgment of the Hon'ble Bombay High Court, the ITAT held that if interest-free funds were adequate to cover the advances, the presumption would be that the investments were made from interest-free funds.

5. Consequently, the ITAT found in favor of the assessee, concluding that the AO erred in disallowing interest expenditure towards advances to subsidiaries. The ITAT directed the AO to delete the additions made for disallowance of interest expenditure u/s. 36(1)(iii) / 37(1) of the Act. The appeal by the assessee was allowed, emphasizing the availability of interest-free funds to support the advances to subsidiaries.

This detailed analysis of the judgment highlights the key issues, arguments presented by both sides, and the rationale behind the ITAT's decision in favor of the assessee.