2020 (12) TMI 226 - AT - Income Tax

Disallowance on account of interest on the capital account - Withdrawal from one partnership firm and investment in other partnership firm - Whether addition with the partnership firm M/s. Sai Prestige Development is not sustainable as the same is clearly made on notional basis in the absence of any such interest paid or payable to the assessee by partnership firm of M/s. Sai Prestige Development - HELD THAT - As per clause (v) of section 28 any income inter-alia, on account of interest on the capital account of a partnership firm is chargeable to tax under the head Profits and gains of business or profession in the hands of partner only when it is due or received by him from such partnership firm. In the present case, no such interest was due to the assessee or received by him from the partnership firm of M/s. Sai Prestige Development on the capital account as a partner and the same therefore, could not be brought to tax as the business income of the assessee. As noticed that such interest on notional basis was not added by the Assessing Officer to the total income of the assessee but the deduction claimed by the assessee on account of interest paid on the debit balances of capital account with other firms was disallowed by him to the extent of interest attributable to the credit balance of capital accounts / with M/s. Sai Prestige Development on the basis that there was diversion of interest bearing capital for making investment in the capital of M/s. Sai Prestige Development. This basis adopted by the authorities below to make the impugned addition on account of disallowance of interest is not sustainable. Even if it is assumed for the sake of arguments that the entire capital in the partnership firm of M/s. Sai Prestige Development was invested by the assessee from the capital withdrawn from other partnership firms, the said investment in the capital of M/s. Sai Prestige Development was made by the assessee for the purpose of business in as much as income received from the partnership firm of M/s. Sai Prestige Development in the form of profit, remuneration or interest was chargeable in his hands under the head Profits and gains of business or profession . The withdrawals made by the assessee from the other partnership firms on which interest was paid by him, thus, were not utilized for non-business purpose and interest paid thereon in my opinion, cannot be disallowed on the ground that there was utilization of corresponding funds for non-business purpose as alleged by the authorities below. Disallowance made by the Assessing Officer on account of interest and deleting the said disallowance

Summary

Issues: Disallowance of interest amounting to ?24,00,480 made by the Assessing Officer and confirmed by the ld. CIT(A) on account of interest.

Comprehensive Analysis:

Issue 1: Disallowance of Interest by Assessing Officer and Confirmation by ld. CIT(A)

The Assessing Officer disallowed interest claimed by the assessee on debit balances of capital account with other firms, amounting to ?26,16,913, due to non-charging of interest on capital invested in M/s. Sai Prestige Development. The Assessing Officer calculated interest of ?24,00,480 on the capital balance with M/s. Sai Prestige Development at 12% per annum and disallowed the claimed interest. The ld. CIT(A) upheld this disallowance, emphasizing that the firm should have made a provision for interest payment even if it lacked funds or had a stuck-up project. The ld. CIT(A) rejected the addendum submitted by the appellant as it was on plain paper, not on stamp paper, deeming it an afterthought to legitimize past transactions. The ld. CIT(A) held that the Assessing Officer was justified in adding ?24,00,480 as interest expenditure, confirming the disallowance.

Issue 2: Tribunal's Decision

The assessee appealed to the Tribunal, arguing against the notional basis of the disallowance. The Tribunal noted that the addition was not based on actual interest due or received by the assessee from M/s. Sai Prestige Development. The Tribunal observed that the disallowance was made on the premise of diversion of interest-bearing capital for investment in M/s. Sai Prestige Development. However, the Tribunal found this basis unsustainable, stating that the investment in M/s. Sai Prestige Development was for business purposes. The Tribunal held that the withdrawals from other firms, on which interest was paid, were not for non-business purposes, and thus, the disallowance of interest was unwarranted. Consequently, the Tribunal allowed the appeal of the assessee, overturning the disallowance of interest.

In conclusion, the Tribunal ruled in favor of the assessee, allowing the appeal and setting aside the disallowance of interest amounting to ?24,00,480.