2021 (9) TMI 542 - AT - Income Tax

Disallowance of sales promotion expenses and reworking of deduction u/s.80IC - HELD THAT - An identical issue had been considered by Tribunal in assessee s own case for assessment year 2012-13 2019 (6) TMI 661 - ITAT CHENNAI where the Tribunal by following various decisions including decision of Macleods Pharmaceuticals Ltd. 2016 (11) TMI 363 - ITAT MUMBAI and also circular issued by CBDT vide Circular No.5 of 2012 held that sales promotion expenditure incurred by an assessee in the business of manufacture and selling of pharmaceutical products cannot be disallowed by enlarging the scope of circular issued under different regulation Computation of deduction claim u/s.80IC of the Act by excluding disallowance made towards sales promotion and publicity expenses including free samples given to medical practitioners the Tribunal by following the decision of Hon ble Bombay High Court in the case of CIT vs. Gem Plus Jewellery India 2010 (6) TMI 65 - BOMBAY HIGH COURT as held that enhanced profit on account of disallowance of expenses is eligible for deduction u/s.80IC AO as well as the ld.CIT(A) were erred in disallowing sales promotion expenses u/s.37(1) of the Act by considering guideline issued by the Medical Council of India under different legislation. Hence we direct the AO to delete addition made towards disallowance of sales promotion and publicity expenses and further allow deduction claim u/s.80IC of the Act without reducing disallowance made towards sales promotion and publicity expenses. Disallowance u/s 14A - Mandation of satisfaction as required u/s.14A(2) - HELD THAT - In this case the assessee has not made any suo-motto disallowance of expenses and hence the question of recording satisfaction as required u/s.14A(2) of the Act does not arise. As regards disallowance of direct expenses the AO has given categorical finding towards expenses directly relatable to earning exempt income which does not form part of total income. According to the AO the assessee has incurred Rs. 2, 00, 673/- which is directly relatable to exempt income. Once there is a categorical finding from the authorities on direct nexus between expenditure incurred for earning exempt income said expenditure needs to be disallowed under Rule 8D(2)(i) of IT Rules. Therefore there is no error in the orders of the lower authorities in disallowing direct expenses relatable to exempt income. Disallowance of interest expenditure - In the case of CIT vs. HDFC Bank Ltd. 2014 (8) TMI 119 - BOMBAY HIGH COURT where it was clearly held that if assessee had mixed funds including borrowed funds then general presumption comes in favor of the assessee that investment in shares and securities is out of interest free funds. In this case the ld.CIT(A) has accepted the plea of the assessee and has directed the AO to examine availability of interest free funds. Therefore we are of the considered view that there is no error in the findings recorded by the ld.CIT(A) to restore the issue to the file of the AO and to determine disallowance of interest expenses under Rule 8D(2)(ii) on the basis of availability of interest free funds. Disallowance of other expenses u/s 8D(2)(iii) at the rate of 0.5% of average value of investments when the assessee has not made any suo-motto disallowance towards expenses relatable to exempt income then the AO left with no option but to apply prescribed procedure provided under Rule 8D(2)(iii) of the IT Rules. Hence there is no error in disallowance made by the AO towards other expenses. Accordingly we reject the ground taken by the assessee. Excluding investments which does not yield exempt income we find that it is a well settled principle of law by the decision of ITAT Special Bench in the case of ACIT vs. Vireet Investment Pvt. Ltd. 2017 (6) TMI 1124 - ITAT DELHI where it was clearly held that only those investments which yielded exempt income for the relevant assessment year needs to be considered for the purpose of disallowance of other expenses under Rule 8D(2)(iii) of IT Rules. Therefore we direct the AO to consider only those investments which yielded exempt income for the purpose of computing average value of investments and further to disallow other expenses at the rate of 0.5% of average value of investments.

Summary

Issues Involved:
1. Disallowance of sales promotion expenses under Section 37(1) of the Income Tax Act.
2. Reworking of deduction under Section 80IC of the Income Tax Act.
3. Disallowance under Section 14A read with Rule 8D of the Income Tax Rules.
4. Levy of interest under Sections 234B and 234C.

Issue-wise Detailed Analysis:

1. Disallowance of Sales Promotion Expenses under Section 37(1):
The primary contention was whether the sales promotion expenses incurred by the assessee, which included distribution of freebies to medical practitioners, were allowable under Section 37(1) of the Income Tax Act. The Assessing Officer (AO) disallowed these expenses citing the Medical Council of India (MCI) regulations and CBDT Circular No. 5/2012, which prohibits such distributions. The Commissioner of Income Tax (Appeals) [CIT(A)] partially upheld the AO’s decision but allowed expenses related to free samples given to medical practitioners.

The Tribunal, referencing its own prior decision in the assessee’s case for AY 2012-13, held that the MCI regulations and CBDT circular are not applicable to pharmaceutical companies, which are not medical practitioners. The Tribunal also noted that the CBDT circular was effective from AY 2013-14 onwards and thus not applicable to AY 2010-11. Consequently, the Tribunal directed the AO to delete the disallowance of sales promotion and publicity expenses.

2. Reworking of Deduction under Section 80IC:
The AO had recomputed the deduction claimed under Section 80IC by excluding income related to marketing activities, including sales promotion expenses and free samples. The CIT(A) upheld this recomputation. However, the Tribunal, following the decision of the Hon’ble Bombay High Court in CIT vs. Gem Plus Jewellery India Ltd., held that enhanced profit on account of disallowance of expenses is eligible for deduction under Section 80IC. The Tribunal directed the AO to allow the deduction claim under Section 80IC without reducing the disallowed sales promotion and publicity expenses.

3. Disallowance under Section 14A read with Rule 8D:
The AO disallowed Rs. 3,67,943/- under Section 14A read with Rule 8D, which the CIT(A) partially upheld. The Tribunal addressed the following sub-issues:

- Satisfaction Requirement: The Tribunal noted that the requirement for the AO to record satisfaction under Section 14A(2) arises only when the assessee has made a suo-motto disallowance, which was not the case here.

- Direct Expenses (Rule 8D(2)(i)): The AO identified direct expenses of Rs. 2,00,673/- related to exempt income, which the Tribunal upheld as correctly disallowed.

- Interest Expenditure (Rule 8D(2)(ii)): The Tribunal supported the CIT(A)’s direction to the AO to verify the availability of the assessee’s own funds before disallowing interest expenses, referencing the principle that investments are presumed to be made from interest-free funds if such funds are available.

- Other Expenses (Rule 8D(2)(iii)): The Tribunal upheld the disallowance of other expenses at 0.5% of the average value of investments, as the assessee had not made any suo-motto disallowance.

- Excluding Non-Yielding Investments: The Tribunal directed the AO to consider only those investments which yielded exempt income for the relevant assessment year for computing the disallowance under Rule 8D(2)(iii).

4. Levy of Interest under Sections 234B and 234C:
The Tribunal did not provide a specific ruling on the levy of interest under Sections 234B and 234C, as the primary focus was on the substantive issues related to disallowances and deductions.

Conclusion:
The Tribunal partly allowed the assessee’s appeal by directing the deletion of disallowance of sales promotion expenses and allowing the deduction under Section 80IC without reducing the disallowed expenses. The Tribunal also provided specific directions regarding the computation of disallowance under Section 14A read with Rule 8D, including the verification of own funds and exclusion of non-yielding investments. The Revenue’s appeal was dismissed.