2025 (1) TMI 650 - AT - Income Tax

Disallowance u/s 14A - Expenditure incurred on earning exempt income - HELD THAT - When the assessee declares income which consists of exempt income and claims the expenditure which may include the expenditure relating to exempt income. In case of non-satisfaction of the AO he may proceed to disallow the relevant expenditure which relates to earning of exempt income. From the record submitted before us, we observed that the assessee is an individual and runs a book shop and the details of expenditure clearly indicate that all the expenditures incurred are directly linked to the running of book shop and there is no indication that the expenditures include the expenses incurred for earning the exempt income. Therefore, the provisions of section 14A(2) is not applicable. The presumption u/s 14A(3) can be brought in the cases of a company which is an artificial person which are run by the actual persons representing the artificial person. There are implied expenditures which are incurred for both kinds of income i.e. regular as well as exempt income. In the case of individuals, they are not claiming any expenditure for conducting investment activities which are purely personal time and experience. Therefore, presumption u/s 14A (3) cannot be invoked in the case wherein the assessee is not claiming any of the expenditure which are directly or indirectly linked to the investment activities. Therefore we observed that assessee has not claimed any expenditure relating to exempt income and the provisions of section 14A(2) are not applicable in the present case. Accordingly, the grounds taken by the assessee are allowed.

Summary

1. ISSUES PRESENTED and CONSIDERED

The core legal question in this judgment is the applicability of Section 14A of the Income-tax Act, 1961, concerning the disallowance of expenditure related to income that does not form part of the total income, specifically exempt income. The issues considered include:

• Whether the Assessing Officer (AO) was justified in making a disallowance under Section 14A read with Rule 8D of the Income-tax Rules, 1962.
• Whether the assessee incurred any expenditure related to earning exempt income.
• The applicability of the CBDT Clarificatory Notification No.43/2016 and the decision of the Supreme Court in Maxopp Investment Ltd. vs. CIT.

2. ISSUE-WISE DETAILED ANALYSIS

Issue 1: Justification of Disallowance under Section 14A

Relevant legal framework and precedents:

Section 14A of the Income-tax Act, 1961, disallows the deduction of expenditure incurred in relation to income that does not form part of the total income. Rule 8D provides the method for determining such disallowance. The CBDT Clarificatory Notification No.43/2016 and the Supreme Court's decision in Maxopp Investment Ltd. vs. CIT provide guidance on the application of these provisions.

Court's interpretation and reasoning:

The Tribunal interpreted Section 14A(2) as requiring the AO to be unsatisfied with the correctness of the assessee's claim regarding expenditure related to exempt income before making a disallowance. The Tribunal found that the AO did not demonstrate such dissatisfaction.

Key evidence and findings:

The assessee's records showed that all expenditures were directly linked to the operation of a bookshop, with no indication of expenses incurred for earning exempt income. The Tribunal noted the absence of evidence indicating that any claimed expenditure related to investment activities.

Application of law to facts:

The Tribunal applied the legal framework to the facts, concluding that the AO's disallowance under Section 14A was not justified as the assessee did not claim any expenditure related to exempt income.

Treatment of competing arguments:

The Tribunal considered the Revenue's reliance on the lower authorities' orders but found the assessee's argument more persuasive, given the lack of evidence of expenditure related to exempt income.

Conclusions:

The Tribunal concluded that the provisions of Section 14A(2) and 14A(3) were not applicable, as the assessee did not claim any expenditure related to exempt income. Consequently, the grounds of appeal were allowed in favor of the assessee.

3. SIGNIFICANT HOLDINGS

Preserve verbatim quotes of crucial legal reasoning:

"From the record submitted before us, we observed that the assessee is an individual and runs a book shop and the details of expenditure clearly indicate that all the expenditures incurred are directly linked to the running of book shop and there is no indication that the expenditures include the expenses incurred for earning the exempt income."

Core principles established:

• The applicability of Section 14A requires the AO to be unsatisfied with the correctness of the assessee's claim regarding expenditure related to exempt income.
• In the absence of evidence of expenditure related to exempt income, disallowance under Section 14A is not justified.

Final determinations on each issue:

• The Tribunal allowed the appeal, determining that the AO's disallowance under Section 14A was not justified.

The judgment underscores the necessity for clear evidence of expenditure related to exempt income before invoking disallowance under Section 14A, particularly when the assessee's records do not indicate such expenditures.