2022 (6) TMI 1245 - AT - Income Tax

Disallowance u/s 14A r.w.r. 8D - AR submits that the provisions of Rule 8D have only prospective application and could not have been applied in the assessment year prior to the assessment year 2008-09 - HELD THAT - The provisions of section 14A prescribe that where an assessee earns exempt income, the expenditure incurred in connection with earning of exempt income cannot be allowed - As the provisions prescribing the method of computation of quantum of disallowance are prescribed under Rule 8D w.e.f. 1.4.2007. These provisions are held to be prospective and should not be applied for any assessment year prior to the assessment year 2008-09, as held in the case of CIT vs. Essar Teleholdings Ltd. 2018 (2) TMI 115 - SUPREME COURT . However, the ld. CIT(A) rightly held that the provisions of Rule 8D have no retrospective application and restricted disallowance to sum of Rs.70,000/- on ad-hoc basis. Since the respondent-assessee is not in appeal challenging amount of disallowance, we have no option, but to confirm the findings of the ld. CIT(A). Thus, we do not find any merit in the ground of appeal no.1 raised by the Revenue. Accordingly, the ground of appeal no.1 raised by the Revenue stands dismissed. Set-off of brought forward business losses and unabsorbed depreciation losses relating to the demerged undertaking - HELD THAT - In the present case, admittedly, after the scheme of demerger, the appellant had not carried on any business of demerged undertaking and the fact that the assets transferred to the demerged unit were held for sale goes to demonstrate the intention of the appellant that they had no intention of carrying on business of demerged undertaking. The scheme of demerger was carried out only with sole object to avail the benefit of set-off of brought forward business losses and unabsorbed depreciation losses of demerged undertaking. Therefore, for this very reason, the Assessing Officer had denied the benefit of set-off of brought forward business losses. According to us, the reasoning of the Assessing Officer is consistent with object behind enactment of provisions of section 72A of the Act. Furthermore, sub-section (5) of section 72A has been enacted empowering the Assessing Officer to deny the benefit of set-off of brought forward business losses, which means that merely because the scheme of demerger was approved by the Hon ble High Court ipso facto would not entitle the assessee for the benefit of set-off of brought forward business losses, contrary to the objects behind the enactment of the provisions of section 72A of the Act. CIT(A) had granted the benefit of set-off of brought forward business losses in a perfunctory manner without looking into the objects behind the enactment of provisions of section 72A and appears to have been carried out by the submissions of the assessee that once the scheme of demerger is approved by the Hon ble High Court, the assessing authority cannot go behind the scheme of demerger ignoring the provisions of section 72A, which governed the set-off of brought forward business losses in the case of amalgamation/demerger etc, which prescribes the conditions to avail the benefit of the scheme. In the circumstances, we find that the order of ld. CIT(A) is illegal and unreasonable. Therefore, the order of the ld. CIT(A) is reversed and the ground of appeal no.2 and 3 filed by the Revenue stands allowed.

Issues Involved:
1. Restriction of disallowance under Section 14A of the Income Tax Act.
2. Disallowance of set-off of brought forward business losses and unabsorbed depreciation pertaining to a demerged undertaking.
3. Allegation of using the demerger as a colorable device to reduce and set-off losses.

Detailed Analysis:

1. Restriction of Disallowance under Section 14A:

The Revenue challenged the decision of the Commissioner of Income Tax (Appeals) [CIT(A)] who restricted the disallowance under Section 14A to Rs. 70,000 from Rs. 6,60,520. The CIT(A) held that the provisions of Rule 8D, which prescribe the method of computation for disallowance, are prospective and not applicable for the assessment year 2006-07. The Tribunal upheld the CIT(A)'s decision, noting that the Supreme Court in CIT vs. Essar Teleholdings Ltd. had held Rule 8D to be applicable only from the assessment year 2008-09. Therefore, the Tribunal confirmed the CIT(A)'s restriction of the disallowance to Rs. 70,000 on an ad-hoc basis, dismissing the Revenue's appeal on this ground.

2. Disallowance of Set-off of Brought Forward Business Losses and Unabsorbed Depreciation:

The Revenue contested the CIT(A)'s decision allowing the set-off of brought forward business losses of Rs. 16,54,99,878 and unabsorbed depreciation of Rs. 3,47,20,047 related to the demerged undertaking. The Assessing Officer (AO) had denied this set-off, arguing that the demerger was not for genuine business purposes but was a tax avoidance scheme, as evidenced by the assets of the demerged undertaking being held for sale.

The CIT(A) overruled the AO, stating that once the demerger was approved by the Hon'ble Bombay High Court, the AO had no jurisdiction to question its motive. The Tribunal, however, reversed the CIT(A)'s decision, emphasizing that the approval of the demerger by the High Court does not automatically entitle the assessee to the set-off benefits under Section 72A. The Tribunal cited the Delhi High Court's decision in IEL Ltd. vs. Union of India and the Bombay High Court's decision in Ballarpur Industries Ltd., which held that the benefit of Section 72A cannot be availed if the sole purpose of the demerger is to gain tax benefits. The Tribunal concluded that the demerger was carried out solely to avail the tax benefits, consistent with the AO's findings, and thus, the set-off of brought forward business losses and unabsorbed depreciation was not permissible.

3. Allegation of Using Demerger as a Colorable Device:

The AO argued that the demerger was used as a colorable device to reduce and set-off losses against profits, thereby defeating the object of Section 72A. The Tribunal agreed with this assessment, noting that the assets of the demerged undertaking were held for sale, indicating no intention to continue its business. The Tribunal reiterated that the objective of Section 72A is to facilitate the revival of sick units and not to provide a tax benefit for profit-making companies through demergers. The Tribunal found that the CIT(A) had overlooked the legislative intent behind Section 72A and had granted the set-off benefits in a perfunctory manner.

Conclusion:

The Tribunal partly allowed the Revenue's appeal, confirming the restriction of disallowance under Section 14A to Rs. 70,000 but reversing the CIT(A)'s decision on the set-off of brought forward business losses and unabsorbed depreciation. The Tribunal held that the demerger was not for genuine business purposes and was used as a device to avail tax benefits, thereby upholding the AO's original disallowance.

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