2020 (1) TMI 1040 - HC - Income Tax

Benefit u/s 36(1)(iii) denied - expenditure on borrowals - HELD THAT - From perusal of Section 36(1)(iii) of the Act, it is evident that 3 conditions have to be complied with namely, money must have been borrowed by the assessee, it must have been borrowed for the purpose of business and the assessee must have paid the interest on the aforesaid amount and claimed it as deduction. In the instant case, the Assessing Authority, by an order dated 31.03.2000 has held that the assessee mainly supplies its finished products to its sister concern which is engaged in the manufacturing of plywood, boards, etc. and exports to foreign countries as well as enjoys the benefit of deduction under Section 80HHC of the Act. On perusal of the books of accounts, it has been held that against the supply of finished products, the assessee firm does not directly collect the sale proceeds from the sister concern. Instead of using the sale bill pertaining to sister concern, the assessee has availed of the letter of credit discounting with the banks and has availed of the loan and has paid interest on the bank credit. Commissioner of Income Tax (Appeals) has upheld the aforesaid finding and has held that the assessee has tried to give the whole arrangement a colour of business expediency falling within the purpose and nexus to business. But on a close scrutiny, it is evident that it is nothing but shouldering the interest burden on itself, thereby diverting the benefit in favour of the sister concern. It has further been held that where the borrowing is illusory or colourable, the interest paid on such borrowings is not allowable. No prudent businessman pays interest on the payment to his creditors and at the same time does not charge corresponding interest on the delayed payment from its debtor. It has further been held that the aforesaid arrangement has been made with an object to circumvent the provisions of the Act to facilitate its sister concern to rest on the shoulders of the appellant. It has also been held that the appellant has deliberately created an artificial and colourable devise for reducing its income offered for taxation through an arrangement of letter of credit and thus, the deduction claimed by the assessee on account of interest paid to the bank and also to its creditors are not allowable. The aforesaid findings of fact have been recorded by the Assessing Authority, the Commissioner of Income Tax (Appeals) as well as the Income Tax Appellate Tribunal. The Tribunal has assigned cogent reasons for not treating the borrowings as business expenditure incurred during the course of business which is evident from paragraph 6.2 of the order passed by the Tribunal. Therefore, the first substantial question of law does not arise for consideration in this appeal. All the authorities have assigned cogent reasons which has been stated supra and have rejected the claim of the appellant filed under Section 36(1)(iii) of the Act Rejecting the claim u/s 36(1)(iii) towards the payment of interest on borrowing - second substantial question of law is based on incorrect factual finding inasmuch as the Assessing Authority, Appellate Authority as well as the Tribunal have doubted the genuineness of such a transaction and therefore, the substantial question of law as framed in the absence of any dispute with regard to genuineness of the transaction, whether the Tribunal was justified in rejecting the claim under Section 36(1)(iii) also does not arise for consideration. The Supreme Court in the case of SA BUILDERS LIMITED 2006 (12) TMI 82 - SUPREME COURT has held that it is not in every case that interest on borrowed loan has to be allowed. If the assessee advances it to the sister concern, it all depends on the facts and circumstances of the respective case. Therefore, the question of genuineness of the transaction can be examined in the fact situation of the case. The aforesaid question has been examined in detail by the authorities under the Act by assigning reasons. Deduction under Section 80HHC - It is once again reiterated that all the authorities under the Act have assigned valid and cogent reasons which is evident from perusal of the orders passed by them. Therefore, by no stretch of imagination, it can be held that the sister concern of the appellant is eligible for more deduction under Section 80HHC of the Act on mere surmise and conjectures. The finding that the sister concern is eligible for more deduction under Section 80HHC of the Act is based on mere surmise and conjectures also does not arise for consideration. Accordingly, the aforesaid question of law is answered against the assessee and in favour of the revenue.

Summary

Issues:
1. Interpretation of Section 36(1)(iii) of the Income Tax Act, 1961.
2. Disallowance of interest expenditure claimed by the appellant.
3. Allegations of artificial arrangement to reduce profit and benefit sister concern.
4. Rejection of appellant's claim under Section 36(1)(iii) and Section 37 of the Act.

Issue 1: Interpretation of Section 36(1)(iii) of the Income Tax Act, 1961:
The appellant challenged the Tribunal's decision regarding the business expenditure on borrowals under Section 36(1)(iii) of the Act. The appellant argued that the conditions for claiming this benefit were met, as the borrowed money was used for business purposes and interest was paid. However, the Assessing Authority found that the appellant was shouldering the interest burden of its sister concern, reducing its taxable income artificially. The Commissioner of Income Tax (Appeals) upheld this finding, stating that the arrangement was not a genuine business expediency. The Tribunal concurred, holding that the appellant's actions were not prudent business practices and were designed to evade tax obligations. The Tribunal's decision was based on the facts and reasons provided by the lower authorities, concluding that the appellant's borrowings did not qualify as business expenditure under Section 36(1)(iii).

Issue 2: Disallowance of interest expenditure claimed by the appellant:
The Tribunal disallowed the interest expenditure claimed by the appellant, citing an artificial arrangement to reduce taxable income. The Assessing Authority, Appellate Authority, and Tribunal all found that the appellant's actions were not in line with genuine business practices. The Tribunal specifically highlighted that the appellant's use of letter of credit discounting to pay interest and the lack of direct collection of sale proceeds from the sister concern indicated a non-business-like approach. The Tribunal concluded that the appellant's arrangement was aimed at reducing tax liability rather than serving a legitimate business purpose. Therefore, the disallowance of the interest expenditure claim was upheld by all authorities.

Issue 3: Allegations of artificial arrangement to reduce profit and benefit sister concern:
The appellant's appeal was based on the allegation that the Tribunal wrongly confirmed the lower authorities' findings regarding an artificial arrangement to reduce profit and benefit the sister concern. However, the Tribunal, supported by the Assessing Authority and the Appellate Authority, found that the appellant's actions were not in line with business expediency but rather aimed at reducing tax liability through questionable practices. The Tribunal held that the appellant's arrangement was not a legitimate business strategy and was designed to circumvent tax provisions. Therefore, the allegation of benefiting the sister concern through an artificial arrangement was upheld by all authorities.

Issue 4: Rejection of appellant's claim under Section 36(1)(iii) and Section 37 of the Act:
The Tribunal rejected the appellant's claim under Section 36(1)(iii) and Section 37 of the Act, stating that the conditions for claiming such benefits were not met due to the artificial nature of the appellant's transactions. The Tribunal found that the appellant's borrowings and interest payments were not genuine business expenditures but rather a means to reduce tax liability through questionable practices. The Tribunal's decision was supported by the lower authorities, who all concluded that the appellant's actions did not qualify for the claimed deductions under the relevant sections of the Act. As a result, the rejection of the appellant's claim under Section 36(1)(iii) and Section 37 of the Act was upheld by all authorities.

In conclusion, the High Court dismissed the appeal, finding no merit in the appellant's arguments and upholding the decisions of the lower authorities regarding the disallowance of interest expenditure and the rejection of the appellant's claims under relevant sections of the Income Tax Act, 1961.