2022 (1) TMI 785 - AT - Income Tax

Disallowance of interest expenses u/s 36(1)(iii) borrowed funds were utilized by the assessee for purposes other than its business activity, having been invested in the form of zero percent debentures in a sister concern - Whether the CIT(A), in restricting the disallowance of interest expenses has erred in ignoring the findings of the AO that on the one hand the assessee has claimed huge interest expenses and on the other hand substantial amount have been placed at the disposal of the sister concern on interest-free basis - HELD THAT - Nowhere AO has analyzed as to when assessee had been advancing loan right from AY 2006-07 from out of any interest bearing funds or during the relevant year any further interest bearing funds have been diverted. Converting of debentures on 30.04.2011 out of debit balance with the said party cannot be treated as diversion of funds to the sister concern out of interest bearing funds for the year under consideration. As stated by the assessee, the long term borrowings were reduced to ₹ 6.12 crores during the year. Thus, we do not find any reason as to why disallowance can be made on such a premise. Without going into the merit, whether interest free funds were available or not, we hold no disallowance can be made. Accordingly, entire disallowance made by the AO is deleted - Decided in favour of assessee.

Summary

Issues:
Disallowance of interest expenses under section 36(1)(iii) of the Income Tax Act, 1961 for the assessment year 2015-16.

Analysis:
1. The Revenue's appeal and the assessee's cross objection were against the order passed by the CIT (A) regarding the disallowance of interest expenses. The AO observed that interest bearing funds were diverted for investments in a related company, leading to the reopening of the assessment.

2. The Revenue contended that the disallowance should be higher, citing the judgment in CIT vs Abhishek Industries Ltd. The CIT (A) restricted the disallowance to a lower amount, considering the facts presented by the assessee.

3. The assessee argued that no interest bearing funds were diverted, as the amount was converted into convertible debentures from a debit balance. The CIT (A) partially upheld the disallowance but considered the assessee's submissions.

4. During the hearing, the assessee provided evidence that the funds were not diverted from interest bearing sources. The counsel referenced various judgments to support their case that no disallowance should be made.

5. The Revenue insisted on the disallowance based on the mixed fund argument, asserting that the CIT (A) erred in reducing the disallowance amount.

6. The Tribunal analyzed the facts, noting that no loans were given during the year and the debentures were converted from a debit balance. The reduction in long-term borrowings further supported the assessee's position.

7. Ultimately, the Tribunal found no basis for the disallowance, as there was no diversion of interest bearing funds. The entire disallowance made by the AO was deleted.

8. The cross objection challenging the disallowance was allowed as the Tribunal dismissed the Revenue's appeal and deleted the entire disallowance.

This detailed analysis covers the issues involved in the legal judgment regarding the disallowance of interest expenses under section 36(1)(iii) of the Income Tax Act, 1961 for the assessment year 2015-16.