2020 (10) TMI 1022 - AT - Income Tax

Disallowance of interest paid on unsecured loans taken from specified persons - Addition holding the same to be in excess of the fair market rate as per section 40A(2)(b) - Revenue restricting the same to 12% as against 18% claimed by the assessee - HELD THAT - We find merit in the contention of the Ld. Counsel of the assessee that its claim of 18% rate of interest, paid on unsecured loans taken from specified persons, as the market rate of interest was justified and hence allowable as per section 40A(2)(b) of the Act. None of the factual contentions of the assessee to justify its claim ,we find, have been rebutted by the Revenue. Assessee had justified its claim contending that unsecured loans stood on a totally different footing as compared to secured loan taken from banks, by way of the banks charging interest periodically resulting in compounding of interest and hence higher effective rate of interest ,of banks taking guarantee for the loans given, and charging insurance and processing charges for the same, all of which are not found in the case of unsecured loans taken from private parties, thus justifying a higher rate of interest as compared to banks/NBFC; that generally the rate of interest on unsecured loans is BPLR 2 to 4% and that in the impugned year the SBI BPLR was 14.5% and further that the assessee itself had paid interest @ 14.5% on a loan taken from an NBFC. It was also duly demonstrated that in the preceding year the AO had accepted 18% as the market rate of interest on unsecured loans after duly examining the issue during assessment proceedings.None of the aforesaid facts have been controverted either by the Ld.CIT(A) or by the Ld.DR before us. The disallowance of interest therefore made by restricting the rate of interest to 12% under section 40A(2)(b) is therefore directed to be deleted. - Decided in favour of assessee.

Summary

Issues Involved:
1. Disallowance of interest paid on unsecured loans under Section 40A(2)(b) of the Income Tax Act, 1961.

Issue-wise Detailed Analysis:

1. Disallowance of Interest Paid on Unsecured Loans:

The central issue in the appeal pertains to the disallowance of interest paid on unsecured loans taken from specified persons, which was deemed excessive by the Assessing Officer (AO) and restricted to 12% as opposed to the 18% claimed by the assessee, under Section 40A(2)(b) of the Income Tax Act, 1961.

Arguments by Assessee:
The assessee argued that the interest rate of 18% paid on unsecured loans was consistent with the market rate prevailing during the relevant assessment year. It was highlighted that unsecured loans differ significantly from bank or NBFC borrowings, which involve additional costs such as guarantees, securities, annual renewal charges, insurance charges, and loan processing charges. The assessee contended that these additional costs justify a higher interest rate for unsecured loans.

The assessee further pointed out that the Benchmark Prime Lending Rate (BPLR) of the State Bank of India (SBI) during the relevant year was 14.60%, and unsecured loans typically attracted an interest rate of BPLR + 2 to 4%. The assessee also demonstrated that it had paid 14.5% interest on loans taken from Hinduja Leyland Finance Ltd., an NBFC.

Consistency Argument:
The assessee emphasized that in the preceding assessment year, the AO had accepted the interest rate of 18% on unsecured loans after due examination and had not made any disallowance. The principle of consistency, therefore, demanded that no disallowance be made in the current year as well.

Revenue's Stand:
The Revenue, represented by the Ld. Departmental Representative (DR), heavily relied on the order of the Ld. Commissioner of Income Tax (Appeals) [CIT(A)], which upheld the AO's disallowance.

Findings and Decision:
The Tribunal found merit in the assessee's contention that the 18% interest rate on unsecured loans was justified and aligned with the market rate. The Tribunal noted that none of the factual contentions of the assessee were rebutted by the Revenue. The assessee had successfully demonstrated that unsecured loans warranted a higher interest rate due to the absence of formalities and additional charges associated with bank loans.

The Tribunal also observed that the AO's finding that the issue of disallowance under Section 40A(2)(b) was not examined in the preceding year was incorrect. The assessee had provided evidence showing that the AO had indeed raised the issue in the show cause notice and had accepted the 18% interest rate after due consideration.

The Tribunal criticized the Ld. CIT(A) for upholding the disallowance without applying proper judicial mind to the factual contentions of the assessee and merely reiterating the AO's findings. The Tribunal noted that the Ld. CIT(A) had dismissed the principle of consistency without adequately considering the evidence presented by the assessee.

Conclusion:
The Tribunal concluded that the interest rate of 18% paid on unsecured loans was justified as the market rate and directed the deletion of the disallowance of ?21,86,197 made by restricting the rate of interest to 12% under Section 40A(2)(b) of the Act.

Outcome:
The appeal of the assessee was allowed, and the disallowance of interest was deleted.